The 2008 Islamic Finance Festival (FES) was held in Jakarta from 16 to 20 January. Hosted by the Bank of Indonesia, this year’s theme was Islamic finance and banking for a prosperous Indonesia.
President Susilo Bambang Yudhoyono opened the event by describing how a system of Islamic banking had helped reduce the impact of the 1998 economic crisis in Indonesia. When conventional banks went bankrupt due to the hyper-devaluation of the Indonesian Rupiah (IDR), Islamic banking survived and became the backbone of Indonesian economy by channelling most of its funding to small- and medium-sized businesses.
Although the global share of Islamic finance and banking is still relatively small – comprising only 1.7% of total national economic assets in Indonesia – a shari’a-based economic market that follows the principles of Islamic law caters to the needs of around 200 million Muslims.
The current focus on Islamic banking in Indonesia came when, after observing the positive performance of the Islamic banks in Indonesia, the Indonesian government began to look at it as an alternative system with the potential to improve the economic situation of those people that were devastated by the 1998 crisis. On a larger scale, President Yudhoyono saw an opportunity for Indonesia to become the centre for Islamic finance and banking in Asia and the world.
An example of how Islamic banking differs from other types of banking is that Islamic banks often lend money to companies with floating interest rate loans. The floating rate of interest is pegged to the company's rate of growth. Thus, the bank's profit on the loan is equal to a certain percentage of the company's profits. Once the principal amount of the loan is repaid, the profit-sharing arrangement is concluded.
Another example is venture capital funding. An entrepreneur will provide labour and the bank will provide financing, so that both profit and risk are shared. Such participatory arrangements between capital and labour reflect the Islamic view that the borrower must not bear all the risk/cost of a failure, resulting in a balanced distribution of income and preventing the lender from monopolising the economy.
In an Islamic mortgage transaction, instead of lending the buyer money to purchase the item, a bank might buy the item from the seller, and re-sell it to the buyer at a profit, while allowing the buyer to pay the bank in instalments, with no additional penalties for late payment. In this third example, in order to protect itself against default, the bank requires strict collateral.
The benefits of Islamic finance have been recognised beyond Indonesia. The United Kingdom plans to issue and trade sukuk (non-interest bearing bonds) starting this year, denominated in sterling for the benefit of both local Muslims and others looking for exposure to sterling as a currency. In addition, there are a number of emerging European institutions, such as the Islamic Bank of Britain and the European Islamic Investment Bank. And Thailand and Singapore have begun to follow suit. In fact, along with Hong Kong, Singapore has become the most attractive Islamic finance market in Asia.
Global corporations, such as HSBC Amanah, Citibank Syariah, and Allianz Syariah, are also offering a number of Islamic finance alternatives in the insurance sector.
Deputy Governor of the Malaysian Central Bank, Dato’ Mohd Razif Abdul Kadir, says that there are currently 300 Islamic financial institutions operating in 76 countries in the world. The capitalisation of the global assets of Islamic finance has amounted to more than $1 trillion per year and the Dow Jones Islamic Index has reached $10 trillion. This share is still small compared to the total value of the global financial industry. In the past 20 years, however, the emergence of Islamic finance has become a stimulating phenomenon in the business world with a level of growth of 65% per year.
The temptation to engage in an industry with such growth levels is obvious.
Perhaps one of the most important benefits of Islamic finance is that it has proven to be a calm face for the global image of Islam, which over the years has been tainted by terrorism.
President Yudhoyono also claims that Islamic financial services are not only aimed at Muslim communities. There are common values in Islamic finance and banking, making it more accessible and acceptable for non-Muslims. An interest-free loan, for instance, is respected by all three Abrahamic faiths; passages referring to it can be found in the Qur’an (2:275, 278-279), and in other religious texts such as the New Testament of the Bible (Luke 6:34-35) and the Torah, or Old Testament (Exodus 22:25).
In addition, Islamic finance values equality, channelling credit to people through open investment opportunities, creditor-debtor loss and profit sharing.
Operating on such foundations makes Islamic finance and banking comparable to the idea of the “new monetary economy paradigm” outlined by Joseph E. Stiglitz, a 2001 Nobel laureate in Economy. Furthermore, all of these economic tenets are in line with the principles of democracy – an economy by the people and for the people, which is able to erase economic alienation.