Why Islamic Banks Can Survive A Financial Crisis When Compared To Conventional Banks
The global financial crisis in 2008-2009 was a good lesson for financial sectors, especially banks. Many financial experts conclude that we have to revamp the current financial system. Islamic banks turn out to be one of the alternative solutions. It has been proven that Islamic banks did not experience any significant impact from the 2008 financial crisis.
According to Mousa Almanaseer, Associate Professor, Banking Finance in Bahrain, in his research upon 24 Islamic banks operating in Bahrain, Kuwait, Qatar, Saudi Arabia and the UAE in 2005-2012, discovers that the financial crisis does not have significant impact on Islamic banks profitability. Another case is Indonesia. The country has 80% Muslim population from total population nearly 250 million people and it showed stability in its Islamic banks’ performance due to its small size of foreign exchange transactions and international investment.
As we all understand, an Islamic bank is a bank that prohibits interest and non-Islamic transactions such as buying or selling prostitution, gambling, pornography, pig farming and alcohol. Islamic banks also only finance the purchase of physical assets. Creditors and debtors alike share profits and losses and Islamic finance prohibits all forms of speculation and trade that have risks and uncertainties such as naked-short selling where there is uncertainty of future return.
In financing, Islamic banks will buy an asset on behalf of the borrower and then sell the asset to the borrower at a higher price (mark-up price). To make it easier to understand the difference of murabaha financing in comparison to loans from conventional banks look at it this way: the bank buys an asset such as a car for $ 11,000 and then the bank sells it to the customer for $ 12,000 in the form of installments for a certain period. In the concept of conventional banks, the bank lends some money at a particular interest rate and uses the car as collateral, while the bank’s murabaha transaction is to buy a car on behalf of the borrower and sell the car to the borrower.
Financial instruments in the form of Islamic banks are Ijara (leasing), mudaraba (profit sharing, normally between investors and managers), musharakah (joint venture), sukuk (Islamic bonds), and takaful (Islamic insurance).
Why can Islamic banks survive in times of crisis? There are several factors that cause sharia-based banks to remain relatively stable:
- Islamic Banks are more focused on conservative products and avoid exposure to high risk financial instruments.
- The principle of Islamic Banks is to maintain the banks’ primary function as a mediator between the parties that are in surplus of funds to those in deficit or in need of funds.
- Islamic banks only facilitate and finance real assets.
- Speculation and gambling is forbidden. Islamic banks are believed to not be affected by the crisis because its banking system is not involved in trade payables and there is no market speculation.
- Because of the profit sharing system, the bank’s management performance should always be considered. If the bank experiences losses then the losses will be borne also by the depositors.
- Islamic banks do not borrow funds on the inter bank markets, the funds are derived from their own deposits.
- It is free from speculative and derivative elements.
A number of Islamic Banks have been established since 1975, not only in Muslim majority countries but also in non-Muslim majority countries. Some countries such as Malaysia, the United Arab Emirates, Iran, and Saudi Arabia actively develop this industry which is rapidly growing and promising. Countries that already have Islamic banks include Bahrain, Brunei Darussalam, Gambia, Hong Kong, Iran, Kuwait, Malaysia, Nigeria, Pakistan, Qatar, Saudi Arabia, Senegal, Singapore, South Africa, Turkey, and UAE.
International banks such as HSBC, Crédit Agricole, and Standard Chartered already have sharia-compliant banking divisions. Furthermore, Islamic banks in Western countries have also been established such as the Kuwait-backed Bank of London and the Middle East (BLME). Sharia-compliant products, primarily personal home mortgages, have been offered in the United States since 2002, when Guidance of Reston, Virginia, was launched.
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