Islamic finance: western and Russian approaches, in UNDERSTANDING ISLAMIC FINANCE. From Capital Markets to Real Estate, September 19-20, 2007 Geneva
Dear colleagues, I will speak about Islamic finance in Europe and Russia. The purpose of my presentation is to give you understanding of the difference between Europe and Russia in terms of both Islamic finance development initiatives and the attitude of regulatory authorities towards the expansion of Islamic financial services.
Let me begin with a short overview of the attempts to establish Islamic financial institutions in Europe.
Since two reports dedicated to Islamic Finance in Europe have already been presented here, I won’t take much of your time repeating what has already been said by my respectable colleagues, but would rather glance over the milestones of the history of Islamic finance in Europe.
Short Review of the Attempts to Establish Islamic Financial Institutions in Europe
1978: Islamic Banking System International Holding (Luxembourg)
The cόnsequences of oil crisis in the mid 1970-s strengthened political and economic influence of Arab countries in the world. This favored the realization of economic principles of Shariah not only in Muslim but also in non-Muslim world. At the same time, in the late 1970s, Islamic financial institutions were established in Europe, the MENA region and the Caribbean basin. These were, for the most part, Islamic investment companies and banks established within the framework of internationally operating banking groups, namely "Dar al-Mal al-Islami" and "Al-Barakah" headed by Saudi businessmen: His Highness Prince Faisal and Salih Kamel, respectively.
In 1978 his Highness Prince Faisal established the first Islamic banking structure in Europe - "Islamic Banking System International Holding", which has served as a base for further expansion of Islamic financial institutions in Europe.
Islamic Banking System International Holding was established as a joint-stock company and its purpose was to give birth to Islamic banks in different parts of the western countries with Muslim communities, and to participate in investment projects in Islamic and non-Islamic countries. The company`s investment operations are now spread over different parts of the world where it has established a number of affiliated companies.
1981: Dar al-Mal al-Islami (Switzerland)
In 1981, Prince Faisal organized "Dar al-Mal al-Islami Trust" as financial services conglomerate, with the authorized capital of 1 billion dollars. The head-office was placed in Geneva.
1982: Islamic Bank International of Denmark (Denmark)
In 1982 Islamic Banking International Holding, then part of "Dar al-Mal al-Islami" established Islamic Bank International of Denmark. The Danish Banking Supervisory Board did not recognize an Islamic character of the bank and some time later the bank was converted into an investment company. It should be noted that this happened to most of Islamic banking institutions that emerged in Europe in the 1970-1980s.
With a lapse of time, the operations of DMI besides Switzerland, Luxembourg and Denmark covered the Bahamas, the Isle of Jersey and a number of African countries such as Guinea, Niger, Senegal, Sudan, as well as Bahrain and the United Arab Emirates. The investment base of the DMI steadily grew and by March 1984 the Faisal Group had almost 400 mln. dollars investments.
1982: Al-Barakah bank (England)
In 1982 the Jeddah-based "Al-Baraka Investment Company" part of another conglomerate Al-Barakah acquired "Hargrave Securities", a licensed depόsit taker which operated in the UK under the Banking Act of 1979 and converted it to an Islamic bank having given it a new name - "Al-Baraka Bank".
The liability side of the bank’s balance sheet comprised its capital and depόsits from the local Muslim community, Islamic banks and non-resident depόsitors mostly form Arab countries. The bank used murabaha, mudaraba and musharaka modes on its ássets side.
One of the most popular products of the bank were long-term Islamic mortgages based on murabaha and ijara wa iqtina’.
As all of you know, in the beginning of 1990s after the bankruptcy of the Bank of Credit and Commerce International, the Bank of England toughened its requirements with respect to depόsit takers. As a result, in 1992 "Al-Baraka Bank" ceased to exist as depόsit taker and converted into being an investment company.
August 2004: Islamic Bank of Britain (IBB) obtains the license from FSA
The Islamic Bank of Britain started its operations in the UK in 2004. It is the first UK-based bank to be established offering Islamic banking services as a single corporate entity, unlike the larger banking conglomerates originated from the Arab world. "Islamic Bank of Britain" is regulated by the FSA under the Financial Services and Markets Act of 2000. It offers a diversified range of services, including popular Islamic mortgages, as well as Islamic private banking services.
March 2006: FSA gives authorization to European Islamic Investment Bank
European Islamic Investment Bank was incorporated in the UK in January 2005, with the intention of becoming the first independent Islamic investment bank established and managed on a wholly Shariah basis to be regulated by the FSA. It received authorization of the FSA on 8 March 2006. Among the founders of EIIB are Gulf-based individuals and institutions, including a number of Islamic banks, as well as individuals and companies based in Europe. The range of products and services offered by EIIB include Islamic treasury and capital markets, ásset management, including private banking, and some others, all of which are fully compliant with Shariah.
October 2006: Faisal Private Bank - first private Islamic bank in Switzerland starts operating in Switzerland
Switzerland keeps pace with the UK as far as Islamic banking is concerned. In October, 2006 the first private Islamic bank in Switzerland, "Faisal Private Bank Switzerland" became a licensed Islamic bank. The selection of Geneva as the new bank’s headquarters was not random: Switzerland has been internationally recognised metropolis of private banking for years.
"Faisal Private Bank Switzerland" is part of "Dar al-Mal al-Islami" Group which pioneered the Islamic banking and finance industry. The principal shareholder of "Faisal Private Bank Switzerland" is the Bahrain-based "Ithmaar Bank BSC" (former "Faisal Investment Bank of Bahrain"), one of the world’s most powerful Arab banking institutions.
And now let’s take a look at potential clientele of Islamic financial services in Europe and in Russia.
Muslims of Russia vs Muslims of Europe
During the years of Soviet regime Russian Muslims have become a separate part of Muslim ummah. In spite of globalization, much of what has already become a common event in Europe is not familiar to Russian Muslims. For example, Islamic financial services.
Muslims of Russia
Since the crash of the Soviet Union there has been only one population census in Russia in 2002 whereby no religious affiliation was taken into account.
In this connection we can find different data on the quantity of Muslims in Russia: from 10 to 25 million. In our opinion, the truth is somewhere between these figures. The key question is whether we should take into account so-called ethnic Muslims, that is those who have Muslim name or surname, but do not live in accordance with rules of Shariah or include only so-called "observant" Muslims. In the latter case the figure would be 10 million.
Since 1989 one may observe the renaissance of Islam in Russia. However, even among those Muslims who regularly go to mosque, the share of Muslims who obey the Shariah rules in the economic sphere is insignificant.
In 2004 Takafol.ru, the only Russian language web-site dedicated to Islamic finance, conducted a public opinion poll among the parish of St. Petersburg’s only mosque to reveal their attitude to Islamic finance and the idea of Islamic economy as a whole. The results turned out to be as follows: 50 per cent have never heard about the Islamic prohibition of interest (riba), 40 per cent could not explain the essence of the prohibition and as little as 10 per cent, mostly young men, were aware of the ban on interest and economic relationships in Islam.
Muslims of Europe
The majority of Muslims in modern Europe are not allochthones. They are immigrants from the MENA region, South Asia in first, second and third generations.
According to the figures as of 2005 there are approximately 14 million Muslims living in the European Union, which is as much as in the whole Russia. The share of Muslim population differs from one country to another, as well as in different cities within one country. Some European cities, such as Marseille and Rotterdam, now have Muslim populations of 25 per cent. In others, like Paris, Brussels, London and Copenhagen the figure is in excess of 10 per cent.
The majority of Muslims in Europe are among the least qualified, least upwardly mobile, most impoverished. Of the ‘ethnic minority’ 80 % of Muslims live in households where the income is below the national average compared to 25 % of non-Muslim households.
The question is what are the perspectives of Islamic finance among so mixed Muslim ummah of Europe?
In recent years economists in the West have given more attention to collection and processing of empirical evidence on current and potential consumers of Islamic banks preference.
In Loughborough University several researches have been passed. The main goal of them was to find out a behavioral model of potential customers of Islamic financial institutions on example of Muslim population of England.
The research was focused on Muslims’ attitude towards the loan interest. It was discovered that 66 % of respondents did not borrow money at all. 33 % used to pay interest or were ready to do it. It is interesting that 23 % of those who did not practice usury said they did it because of their negative attitude towards the loan interest.
Another goal of the research project was to clear up a question of respondents’ attitude towards the establishment of an Islamic financial institution in their locality. There is only 10 % who will continue to have an account in a conventional bank. 29 % will open the second account in an Islamic bank. However one third of the respondents will transfer all their money to an Islamic bank.
According to the research data one can observe an interest to Islamic banks from potential customers of different nations, standard of education, etc. At the same time, there is a direct relation between the standard of education and demand for Islamic financial services.
The research data confirms several facts. In particular, it confirms that demand for Islamic banking services is rélatively high. This demand is almost not dependant on the place where the customer lives, in Islamic world or in the West. At the same time, the diaspora is not so well informed about Islamic economy in non-Islamic environment.
These conclusions are also true for Muslims of Russia.
And now I would like to give a brief overview of the current situation with Islamic finance in Russia. Some of you might find the situation far from being optimistic in terms of interest of regulatory authorities. However, one should keep in mind that despite the attitude of authorities the future of Islamic finance is much dependent on the demand for such services from local Muslim population.
Withdrawal of License for Banking Operations from the only Islamic bank in Russia: Politics or Economics?
1992: an attempt to set up the "United Islamic Joint-Stock Commercial Bank" in Kemerovo (Western Siberia). The project remained on paper
On 14 August 1992, it was announced that a United Islamic Commercial Bank Inc. was being set up in Kemerovo. The initiative of the leaders of the Union of Industrialists and Entrepreneurs of Russia was supported by the administration of the Kemerovo Region.
This entity was set up for practical rather than religious reasons: its declared aim was to develop the scientific and technical potential of the CIS countries and encourage business activities of enterprises by attracting foreign capital primárily from the Muslim states. In practice, the latter aim prevailed. Business communities of Saudi Arabia, the United Arab Emirates, Turkey, and the Central Asian states initially showed a certain interest in the project. Nevertheless, the project was not realized - the bank never went into operation.
1997: "Forte-Bank" starts utilizing Islamic financing tools in its operations. "Badr-Bank", an Islamic unit established by "Forte-Bank" shortly
International Commercial Bank "Badr-Forte" used to be the only bank in Russia guided by Islamic business rules. The history of the bank began in 1997, when Forte Bank, a Russian bank that had operated in Russia since 1991, established a new bank - "Badr-Bank". It was proposed that the new bank would provide Islamic banking services.
In 1998 "Badr-Bank" obtained the banking license from the Central Bank of Russia. Significantly, the bank was not called Islamic, from Russian law perspective, "Badr-Forte" was a commercial bank and its legal name read as "international commercial bank". Yet its charter said that the bank had the right "to act according to Russian and international laws by applying Islamic economic technologies which do not contradict the banking laws of Russia". This was an approach approved by the Central Bank of Russia.
2000: merger of "Forte-Bank" and "Badr-Bank" into "Badr-Forte Bank"
In 2000 "Badr-Bank" and "Forte-Bank" united into a single legal entity - "Badr-Forte Bank", which, in particular, increased the new bank’s ássets and expanded its client base.
2005: a consumer society "Manzil" established under the auspices of "Badr-Forte Bank" to offer halal residential mortgage programmes for Muslims in Russia
From the very inception the Bank focused on foreign trade operations, including conversion operations, cross-border transfers, letters of credit, bank guarantees, rather than working with individuals. Its operations of this type were limited to cross-border transfers and paying cash from current accounts. It should be noted that the bank’s popularity among Muslims was limited by the fact that it had no branches, even in Moscow, which it was trying to make up for by widely using Internet banking and GSM-banking.
In December 2005 the management of the bank decided to launch a new product - Islamic mortgage using diminishing musharakah scheme. "Badr-Forte Bank" assisted in establishment of the cooperative housing society "Manzil". The aim of "Manzil" was to provide Islamic mortgage programs for Muslims living in Moscow and the Moscow region and in the long term spread into other regions of Russia.
One of the main disadvantages of the program was a short term of the mortgage loan, which originally did not exceed 5 years. Later, the term was extended to 7 years.
When "Badr-Forte Bank" faced problems with the Central Bank of Russia the halal mortgage program had already attracted about 50 clients. Despite the fact that the program was mainly addressed to Muslims, "Manzil" appreciated that non-Muslims also showed their interest in it.
We should note here that although a laudable initiative, the program was far beyond pockets of many Russian Muslims, simply because "the housing can’t be cheap", even an Islamic one. Furthermore, experts note that Islamic mortgage is rather a luxury than the cruel necessity. Those who follow Islamic prohibition of usury and choose Islamic mortgage programs often face harder conditions than they would face had they choose the conventional one.
December 2006: withdrawal of the license from "Badr-Forte Bank"
In the end of 2006, the story of Islamic banking in Russia came to an end. The Central Bank of Russia was not so tolerant towards "Badr-Forte" any more as it used to be nine years ago. In the first decade of the year 2006, in the course of inspection conducted by the Central Bank certain minor mismatches in respect of the Bank were found and shortly afterwards the license of "Badr-Forte" was withdrawn.
The official grounds were the violation by the bank of the Federal Law "On Counter-acting Legalisation of Proceeds from Crime (Money Laundering), and Terrorist Financing". "Badr-Forte Bank" appeared to be one of the numbers of small banks that were winded up during CBR’s unceasing campaign against money-laundering in Russian banking sector. Among unofficial versions are pόlitics and new property redistribution within the Russian banking sector.
Despite being the only Islamic bank in Russia, the bank was devoid of support of Muslim ummah who did not care much about the bank’s future.
As a closing remark to the story of "Badr-Forte Bank" it’s worth saying that "Badr-Forte Bank" used to be a member of a number of Islamic institutions, including the Accounting and Auditing Organisation for Islamic Financial Institutions and the General Council of Islamic Banks under the IDB, which means that its operations were recognized at the international level as Shari‘ah compliant.
When studying Islamic banking in Russia, one may unwittingly draw a parallel with Islamic Bank of Britain. There are, however, much more differences between these two banks than things in common.
To begin with, British authorities have been quite enthusiastic about development of Islamic banking; they believe Islamic financial products will help diversify domestic financial market. The Russian authorities keep putting obstacles in Islamic banking development rather than show interest in it. Moreover, recent years in Russia are characterized by fast growing Islamophobia, which is also true among officials who suspect every Islamic institution of posing a terroristic threat.
Another important and in a way crucial difference between the two banks is demand for Islamic banking services. London, one of the world’s biggest financial centres, is also becoming one of the centres of Islamic finance. Not only Muslims living in the UK show interest in Islamic financial services but also businessmen from different countries, in particular from the Middle-East, who come to London for business.
In Russia, the demand for Islamic financial services is still very weak. "Badr-Forte" was thus unique not because it was the only Islamic financial institution in Russia but rather because it was established when there was practically no demand for Islamic financial services domestically. The majority of Muslims in Russia are either not aware of Shari‘ah prohibitions applying to trade and business, or explain non-compliance with such prohibitions by lack of possibilities. For the majority of so-called practicing Muslims of Russia their Islamic affiliation is limited to a fivefold salah, attending mosques on Fridays, fasting during Ramadan and if there is money performing a hajj. The fifth pillar of Islam, zakah, is often ignored. Absence of a centralised body, which would collect this purificatory tax, is a weak excuse for ignoring this pillar of Islam. Moreover, most faithful do not consider themselves to be bound by Islamic prohibition of dealing with interest at all.
Does this mean that every future attempt to set up an Islamic bank in Russia is a loosing battle?
Obviously, the recent developments have not complimented towards prospective Islamic banking movement in Russia. Businessmen and bureaucrats in Russia have already learned to decipher the messages that come form the authorities very well. The businessmen from Muslim world also treat risks associated with establishment of Islamic financial institutions as very high and are not yet ready to invest their capital in such ventures. As a cόnsequence, Islamic banking in Russia threatens to become a matter of scientific discussions rather than business talks. In fact, unlike in Europe, in Russia the initiative for establishing Islamic financial institutions have been mostly internal, coming from scientists, rarely from businessmen who are already doing business.
Let’s now look at another aspect of Islamic finance - Islamic insurance. I will tell you about the attempt to set up Islamic insurance company in Tatarstan three years ago.
Islamic Insurance (Takaful) in Russia
Islamic insurance in Russia can be carried out in two forms: commercial insurance or mutual insurance depending on the development level of the region in which these projects are realized, the income levels of the local people; their knowledge about the range of insurance services, etc. However, mutual insurance seems to be more preferable since it is more in line with Shariah rulings (see Fatwa of Islamic Fiqh Academy (Jeddah), 1985).
Moreover, it will be harder to adjust the general insurance norms to the takaful practices than to do the same with respect to the mutual insurance. The task is made easier by the fact that Russian legislation on mutual insurance is still underway. In this connection, the compromise and constructive solution is to establish a takaful company that would operate according to the principles of mutual insurance. We also should not ignore that the majority of Islamic scholars treats mutual insurance as not contradicting Shariah.
Islamic insurance in Russia: key dates
In 2004 on the basis of "Itil" insurance company (Tatarstan Republic located in the very heart of Russia) Islamic insurance directorate was established. The main area of responsibilities of the directorate was working out the concept of takaful in Russia and composing a business plan.
As the company did not have enough money to realize the project at its own expense, the agreement was reached between "Dubai Islamic Insurance and Reinsurance Company (Aman)" (the United Arab Emirates) and "Itil" insurance company to joint efforts in order to establish the first takaful operator in Russia. It was proposed that 49 % of shares would belong to AMAN and 51 % to "Itil" respectively.
The management of "Itil" planned to convert the company into an Islamic insurance company. A deep analytical work was carried out. However, in 2005 the first ever Islamic insurance project in Russia based on "Itil" insurance company ended off. The two main reasons for it were as follows the shareholders of "Itil" insurance company had lack of money and AMAN lost interest in the project.
Since then no further attempts to promote Islamic insurance in Russia have been made.
The next part of my presentation is dedicated to waqfs in the past and present of Russia.
Waqfs in Russia: past and present
In modern Russia the Muslim spiritual leaders do not always clearly understand the purpose of waqf. They tend to forget that waqf property is not transferred to the religious organizations for ownership: they are entitled to the revenue this property produces.
It is interesting that similar problems also existed in the Volga region of Russia in the past, which sometimes was because the waqifs did not specify the rules of waqf property management and contról over the revenue it produced.
It should be noted that in tsarist Russia a sort of so-called cash waqf was very popular. The waqif put a certain sum into bank and the interest on it was directed to different beneficiaries: mosques, Muslim clergy, students of religious schools, etc., for which the waqf was intended. In this way while one of the provisions of Islamic law was observed, another, much more important provision, the ban on usury repeatedly formulated in the Holy Quran was violated.
To the late 1920-s last waqfs on the territory of the USSR were prohibited. However they continued their illegal existence in the Northern Caucasus. In the Volga region, the culture of waqfs was irrevocably lost in Soviet times.
The waqf issue was repeatedly discussed in present-day Tatarstan at the highest level. At the beginning of 1990s president of Tatarstan Shaymiev set up a special commission to study the problems related to waqfs in the republic. Specialists were sent to Turkey to exchange experience.
Later, in 1998, a uniting congress of the Republic’s Muslims created the post of chairman of the waqfs, in the rank of first deputy mufti and waqf department under Muslim Religious Board in the Republic of Tatarstan. The very concept of "waqf" was first introduced into Russian Federation laws in the Law of Tatarstan on the Freedom of Conscience and Religious Associations.
The Russian law treats waqf and similar institutions very favorably. On 24 September, 2004, the Russian State Duma passed amendments to the Land Code which provided for the free of charge transfer of land under buildings and other facilities used for religious and charity purposes to the religious organizations that owned them. Those religious organizations that do not own the buildings in which they function, will receive the land under them gratis for the entire period they continue using the buildings.
In other words, mentality rather than the laws is the main obstacle: the Muslims of Russia have lost the culture of waqf. Most of the faithful, including well-to-do-Muslims, believe that waqf is too complicated to be effectively controlled. Whereas in Dagestan, the Muslim communities (jamaats) are strong enough to control the use of waqfs, in Tatarstan and other regions, embezzlement cannot be excluded. This explains why the faithful who want to engage in charity find it much easier to hand the money to those who need it in the form of sadakah or rarely, in the form of zakah, rather than to deal with the institution unknown to the contemporary Russian practice.
And finally I would like to briefly describe a "Gold Dinar" project - a recent initiative in the field of Islamic finance in Russia.
Hopefully, this time when capital, expertise and faithfulness are brought together, the miracle happens and we will see the birth of a healthy Islamic finance practice in Russia.
‘Gold Dinar’ Project in Russia
In spring 2007 one businessman native from Dagestan approached me to inform that he was going to engage in collective investments according to Shariah. I was invited to join this project which had been initiated by a group of businessmen native from Dagestan living in Moscow.
The "Gold Dinar" management company was incorporated. The business field of the company are Shariah-compliant unit investment funds (UIF).
In spite of the fact that the majority of people in Dagestan are Muslims, no attempts to establish Islamic financial institutions have been made before. Moscow with by the most conservative estimate 1 million Muslim population looks to have a great potential for development of Islamic finance. There are many well-to-do persons among national diasporas in Moscow who follow Islam.
Gold Dinar project in Russia: main advantages
Why a management company, not an Islamic bank or a takaful-company?
There are some reasons for it:
- firstly, there is no need to amend current legislation for establishing a management company and a Shariah-based UIF;
- secondly, one can observe a strong growth of interest in UIF. The National League of Managers estimates that in 2006 the number of investors in UIF in Russia increased from 133 to 330 thousand.
- in spite of the fact that nowadays there are a lot of various UIF in the market, the financial ethically-based products of "Gold Dinar" management company will stand out against a background. At the same time, the services of a management company are addressed primarily to Muslims;
- finally, less capital is required to be inputted when establishing a management company as opposed to an Islamic bank or a takaful company .
In case the project "Gold dinar" succeeds, an Islamic bank or a takaful company might be established.
1. The investors from the Muslim world are very enthusiastic about investing money and joining projects for establishing Islamic financial institutions in Europe. At the same time the state does not put obstacles in developing Islamic finance and is ready to find a compromise. A good example is memorandum of understanding between the FSA and the IBB.
2. The investors from Muslim states still are not ready to invest in Russia. The risks are very high. Furthermore, the state through the Central bank and other institutions only put obstacles in development of Islamic finance, rather than welcome it.
3. In Europe the establishment of an Islamic financial institution is rather a question of economics than politics. In Russia everything what is related to Islam is extremely politicized. So, any attempt to establish an Islamic financial institution in Russia will be viewed in the light of politics. If there is no appropriate decision on the level of the president of the country, an Islamic bank or a takaful company can hardly be established on the federal level.
4. Europe has almost 30 years of experience in Islamic finance. There were progress and failures in this process. In Russia 10 years of experience with Islamic finance can be characterized as negative.
5. The establishment of Islamic banks and Islamic banking "windows" in Europe in the end of 1990s - beginning of 2000s was a response to a firm interest European Muslims showed in such services. In Russia so far there is no demand for services of Islamic financial institutions.