Despite breaking free of its regional origins, Islamic finance risks falling behind the conventional capital markets in its support of social development and the real economy. Ethical sukuk and a focus on SME lending are on the wish-list of senior World Bank and IFC officials hoping to push the market closer to the ideals of Islamic finance.
International sukuk issuance hit a monthly record in September with over $6bn sold. Debut sales from Goldman Sachs, Hong Kong and South Africa all helped set the new benchmark. But despite a broader and deeper sukuk market, the conventional bond market has made more progress in targeting the use of proceeds towards social goals, Michael Bennett, head of structured finance at the World Bank’s Treasury told Emerging Markets.
“There’s a lot of money now in conventional markets that’s been put towards ethical investment,” Bennett told participants at a panel on Islamic finance at the World Bank-IMF meetings in Washington. “There’s huge bottom-up demand for ethical bonds where the proceeds are used for to specific causes. You don’t see that yet in Islamic finance.”
In order to comply with Shariah law, sukuk structures have to avoid excess risk, uncertainty and avoid financing certain industries. But a focus only on what cannot be done is at the expense of tracking how the proceeds from sukuk sales help social development.
“Every religion has things you shouldn’t do,” said Bennett. “But that’s not the central tenet of any religion. A more central tenet is community development and we’ve haven’t necessarily seen as much focus on that in the sukuk market as the conventional.”
IFFIM SUKUK
The World Bank is trying to promote ethical sukuk where the structure and use of proceeds are equally in line with Islamic principles, Bennett said. The World Bank’s UK-based affiliate the International Finance Facility for Immunisation (IFFIm) has announced plans for a $300m-$500m sukuk to fund immunisation and vaccine procurement programmes. The World Bank is also working with Dubai to develop a sukuk to fund the construction of a large solar park, Bennett told Emerging Markets.
SME GAP
Funding small and medium enterprises and the real economy is an area where Islamic banks need to do more, said Kahleel Ahmed, chief investment officer at the IFC. A recent IFC study uncovered that the ratio of banks that offer SME financing in the Islamic banking sector is half what it is in the conventional, he said.
“There are lots of banks that do not know the rudiments of SME financing,” Ahmed said. “There needs to be shift into the real economy. We’re trying to encourage banks into engagement with SME’s and affordable housing.”