Following on from some other discussions I started to think of possible ways for Islamic banking to get started in Australia. The main problems seem to stem from two, separate, pieces of legislation / regulation. For housing loans, as discussed earlier, there is the double stamp duty problem. In Victoria, at least, this problem has been dealt with. I believe that it has not been dealt with in other jurisdictions.
The other problem is the Australian prudential regulations, administered by APRA. These follow the current, Basel I, standards and are in the process of changing over to the Basel II standards. Neither of these makes provision for Sharia compliance. Both of the Accords treat these types of financial arrangements as equity, rather than credit – thus giving them a heavy capital treatment.
There may be a loophole, though, and one that is not well known.
This loophole is the exemption for religious charitable funds (AKA “Church Funds”), as discussed here. What may be possible (and further work to check on this will have to be done) would be to set up a charity, or series of charities, specifically with the object of lending to observant Muslims for the purpose of allowing them to observe their religion. Properly structured, and with some prudential oversight, there is no reason why these could not provide an appropriate framework.
By “prudential oversight” I do not mean a government body would (necessarily) be doing the regulation. If the various Muslim communities could meet and agree on a regulator, set up and run by themselves and providing some degree of assurance over these funds I am fairly confident that they would be allowed to grow to the sort of size where they could no longer be kept out of the mainstream of banking practice in Australia.
For such a regulator to work it would have to have broad agreement from most Muslims – Sunni and Shia alike. The board of the regulator could be composed of experts in Islamic jurisprudence from each of the major schools (I believe there are 4), a couple of lawyers well qualified in Australian law, two to three experts in banking practice and one or two others selected for their profile in the community. With a small staff they could then exercise oversight over the religious charities actually conducting the financial services.
It would be an interesting exercise in self-regulation.
It would then only be up to the States to get the stamp duty laws changed.
[UPDATE] Lloyds Bank in the UK have found a way to both achieve Sharia compliance and make it pay: look
29 August, 2006 at 21:07
Thank you for an interesting post.
There are some points that I wish to make (in no particular order)
1. the purpose of “Islamic” lending is to make the price of money essentially free.
2. Therefore there is not set rate of interest (or riba in Arabic). This is expressly forbidden.
3. Risk is rewarded, Islamic finance is essentially venture capitalism. An Islamic lender can go into partnership with a merchant to finance a business. Both share the risk to the level of their financial commitment. This is the same for a lender financing a home loan. alternatively a lender may give the price for the purchase of the home and expect to be paid in full, but no extra, no late fees, no charges
4. If implemented like this “Islamic finance” (which is the grand daddy of a “free market”) will turn conventional finance on its head, for Muslims and non-muslims alike . Who would borrow at money at a rate of interest when they could obtain a venture capital partner who would share the risk?
5. there re a variety of imperative in the Muslim financial industry preventing it from gazing directly at such a radical (yet more religiously authentic) system.
6. Some Islamic financial scholars are essentially bought off to certify a product as “riba free” when it is not. A variety of sub-transactions can disguise the riba in a overall agreement.
7. this is how financial institutions provide an “Islamic” product and retain a low risk exposure.
8. The issue therefore is not one of being able to make money from Islamic finance, that is easy enough, but how do lenders as they are currently constituted minimise their risk.
9. Current baking structures do not allow for Islamic finance in any more than a niche market
10. A large part of the Islamic finance industry is religiously fraudulent and the community is beginning to wake up to it.
29 August, 2006 at 21:16
29 August, 2006 at 21:23
I would agree with much of what you have said, but I would disagree fundamentally with point 1. Nothing can make money “free” – all that the prohibition of riba does is (in my opinion) to prohibit a forward pricing of the time value of money. It is substituted with a backward looking pictre of the return to that money.
Just in case my terminology is unclear, I do not mean backward looking in any culturally demeaning sense – just that it relies on realised return rather than forecast return on the risk.
This, I believe, is a better way of looking at your point 2.
On the wider point – I agree that this would be a valuable addition to the financing practices even for those of us who are not Muslims.
The problem for those of us who are not Muslims, though is on the deposit side – I am not sure that many would be ready to deposit into an institution whose returns are not set out in advance, but where we must trust that the institution to which we entrust our money will pay us fairly in arrears. It may be possible, but but it would be a big leap.
29 August, 2006 at 21:27
Any suggestions on how to overcome the problem of finding appropriate jurists to pronounce on the financing structures?
30 August, 2006 at 15:50
Your point is spot on, the time value of money is prohibited precisely because it deals in the uncertain, I am unsure about the second part of your comment (I am no economist, nor even a gifted amateur).
The other point that you make about deposit security being uncertain, is also correct. There would be no banks as such but venture capital firms that would invest your money.
But that should be compensated for by the dramatic reduction in prices one pays for the big ticket items such as a house in a market where there economic benefit in selling money.
The last point about assuring sharia compliance, is also a matter for the markets and for religious education.
When Sheikh Tawfiq Chaudry began a series of weekend courses for Muslims on the basics of Islamic finance, it had an immediate impact on the market, with a well educated consumers, Islamic lenders were forced to defend some of their more questionable products. In a free market, quality and religious fidelity will inform the choice of Islamic financial products.
30 August, 2006 at 16:48
I think perhaps you should look more at the deposit side institutions being more like fund managers – no guaranteed returns, but a share of the profits of the funds. Looked at it this way there is considerable amount of expertise in the regulatory community. It would be good to see it used in this way.
On the question of the jurists – being a believer in the freedom of the individual I strongly endorse that approach. People learning the religious reasons for themselves and making their own decisions is the best way. That way, when we come to make an accounting for our actions we will be able to say we were not simply led and blame someone else – we decided.
On the other hand, regulators like to see documents and records and not everyone is capable of understanding all products, which is why I suggested the approach above.
1 September, 2006 at 20:56
Interesting points. It seems to me that, given the small size of the Muslim community and that demand for borrowing funds far exceeds the demand for deposit/investment opportunities in the community, the biggest challenge facing any Islamic ‘bank’ is being able to meet this demand. Perhaps, a good option is for existing banks to develop halal contracts that they can then market to both Muslim and non-Muslim alike. I know Arab Bank looked at it, and I had some initial discussions with ANZ a few years ago (they already have an Islamic Banking Unit which they took over when they bought Grindlays) but nothing ever eventuated because the market was seen as too small.
As an aside, there are a number of existing and widely used financial instruments that are halal but which most Muslims don’t possess the knowledge to assess or even know about. For example, even the most conservative scholars allow car leasing with certain conditions (for example, that the company providing the finance ‘owns’ the car that is being financed). It would be great for someone appropriately qualified to review alll these products — such as chattal mortgages, CHP, novated leases, etc — and produce a report on what is and what is not halal (in its current form) and what, if any, conditions need to be applied to them to make them halal.
3 September, 2006 at 11:41
If the funds come from interest bearing deposits does that render the whole arrangement harām?
For example, if the novated lease as an arrangement was halal, but the funds for the lease were derived from a riba transaction is the lease halal?
3 September, 2006 at 19:10
It is the contract between the lender and the borrower that determines whether the contract is halal or haram. If a novated lease contract is halal, then the fact that the company providing it may be involved in other haram transactions doesn’t negate the permissability of taking out the lease (assuming that particular contract is halal).
Note that novated leases are problematic because they involve multiple contracts in one. i.e. the buyer contracts with the leasing company, the employer contracts with the buyer, and the employer enters a contract with the leasing company. Chattal Mortgages and CHP are a lot easier to make shariah-compliant provided certain simple conditions are met (such as the company providing the lease having ‘ownership’ over the asset at the time the contract is made; an easy condition if you are buying a new Toyota via Toyota Finance, for example)
3 September, 2006 at 19:36
Worth considering, therefore.
I expect that the situations with mortgages will be more difficult, as the double transfer of ownership entailed in the normal arrangements (as I understand them) would both attract duty – except in Victoria as noted. I might speak to my local MP to see if this can be changed in WA, where I live.
The other difficulty is the Basel rules – this would be a federal matter. My federal MP is not very convensant on these matters, but I will approach her anyway. You might want to do likewise.
3 September, 2006 at 19:56
Would the rules of the Basel Accord apply though? My understanding was that they only applied to banks that operated internationally.
3 September, 2006 at 20:47
In Australia, Basel II will apply to all ADIs (Authorised deposit taking institutions) regulated by APRA. This means (almost) anyone taking deposits from the general public. The only exceptions will be the religious charitable funds (church funds).
This is by the choice of APRA.
In some other countries the rules are different. In the US Basel II will apply to the internationally active banks, but Basel I, slightly modified, will apply to the rest.
11 September, 2006 at 12:40
On a related note, there is a company in the UK that is now offering a housing loan product which has been given the tick of approval by some of the most conservative scholars in the UK. In fact, it’s the only product that they agree with. I’ve linked to the fatwa and a description of the product at http://austrolabe.com/2006/09/10/sheikh-haitham-al-haddad-a-model-for-true-islamic-finance/
The only two issues that I can see are the double stamp duty implications and the question of whether banks would be willing to accept the capital risk that comes with the shares being valued based on current market rates (or whether the fixed ‘rent’ for the term of the loan would compensate for that risk). If you or anyone else reading this with banking experience has any time, I would be interested in knowing your thoughts on this model and whether it would be workable in an Australian context?
11 September, 2006 at 18:18
I have asked a friend of mine that handles mortgages day to day to comment on its workability. Basel would be a problem – the exposure would be judged as one to the equity in the house, rather than a secured mortgage over residential real estate. The difference is not a logical one in this instance, but who said regulation had to be logical? I will ask a question next time I have a discussion with APRA. I might get a chance in a forum on Wednesday. I will let you know.