Globally, Islamic finance has been performing well despite the shock from the COVID-19 pandemic and unstable and depressed economic scenarios. Driven by the pandemic, digitalization and fintech collaboration are enabling the industry to innovate, connecting issuers and investors to have better access to existing and new markets more efficiently. Likewise, in Pakistan, the Islamic finance services industry is also progressing in a gradual manner on a sound footing with proficient processes and efficient delivery channels.
The economy of Pakistan did well in 2021–22 by attaining GDP growth of 5.97%. This strong economy growth is due to the sound monetary and fiscal stimulus measures initiated by the State Bank of Pakistan (SBP) and the government of Pakistan. However, this growth created issues of high trade and a current account deficit due to a high import bill.
Presently, the economy of Pakistan is going through a difficult time due to some external and internal shocks. The recent floods due to torrential rain have also impacted growth and disrupted several crops including the supply chain. The economy of Pakistan has been affected by widespread destruction due to extreme flooding.
Review of 2022
Despite various challenges on the economic front, the Islamic finance services industry has maintained growth momentum. Islamic banking is the major contributor for the overall Islamic finance services industry and the Islamic banking sector has made remarkable progress by widening its footprint in the banking system of the country.
Currently, 22 Islamic banking institutions comprising five fully-fledged Islamic banks and 17 conventional banks with stand-alone Islamic banking branches are offering Shariah compliant products and services through a wide network of branches across Pakistan.
According to an SBP Islamic banking bulletin, the asset size of Islamic banking witnessed an all-time high and crossed the six-trillion mark to reach PKR6.78 trillion (US$30.05 billion) on a year-on-year basis, while assets and deposits of Islamic banking were up by 41.4% and 27.1% respectively. The market share of Islamic banking in assets and deposits in the overall banking industry stood at 19.5% and 20.5% respectively.
On the banking side, the SBP has invited applications for the issuance of a license for digital banking and as reported, around 20 applications have been received by the central bank. It is expected that Islamic banks may also show their interest in the said segment to further increase outreach at the country level.
Faysal Bank is also very close to completing the requirements of converting into a fully-fledged Islamic bank. The said conversion into Islamic banking will add one more bank as a fully-fledged Islamic bank in Pakistan. Recently, U Microfinance Bank received a license as an Islamic microfinance bank. This new entry will also add great value to address the issue of financial inclusion by catering to the Shariah-based banking needs at small levels.
In the second quarter of 2022, the Federal Shariat Court (FSC) of Pakistan had given its decision for the elimination of Riba (interest) from the entire banking system. The court gave five years to implement an interest-free banking system in Pakistan. It ordered that such a system should be implemented in Pakistan by the 31st December 2027.
Subsequently, the SBP and the National Bank of Pakistan filed an appeal to review the decision since the five-year period is very short to implement the decision. However, later, the finance minister ordered both the banks to withdraw and review their applications and start working to implement the FSC’s verdict.
The Islamic Finance Department (IFD) of the Securities and Exchange Commission of Pakistan (SECP) is also playing a vibrant role in the promotion of Islamic finance within the non-banking and capital market segment. The IFD provides dedicated support to lead the efforts of the SECP for further progress of Islamic finance within the regulated sectors. Within the non-banking segments such as Takaful companies, Islamic mutual funds, Islamic REITs and Modarabas, there has also been a satisfactory performance despite the often difficult operating environment due to the pandemic.
However, there was some uneasy movement in the Modaraba sector since the government of Pakistan withdrew the tax exemption from the said sector last year. Due to this, a few Modaraba companies have decided to exit from the said sector. According to the 2022 yearbook of the SECP, out of the total listed securities, 258 securities are available on the stock exchange as Shariah compliant securities.
Within the mutual fund industry, around 110 mutual funds and 30 pension funds are managing Shariah compliant assets of a combined value of around PKR475 billion (US$2.11 billion). Furthermore, 22 General Takaful and seven Family Takaful companies are also operating in the Pakistani market.
A landmark decision was also made by the IFD in July 2022 by setting up a committee for the promotion of Islamic finance within the non-banking segment. The committee is mandated to identify bottlenecks and opportunities for the development of Islamic finance within non-bank Islamic financial institutions.
The committee comprises representatives of Islamic asset management, Islamic banks, Modarabas, the capital market and academia. The committee will concentrate and focus on the existing regulatory framework, study of international best practices, greater financial inclusion, product innovations and implementation of Islamic financial standards.
Preview of 2023
If we look at the statistics of the last five years, Islamic banking has made remarkable progress. The overall asset size has almost increased three times and the branch network has approximately doubled compared with the figures of December 2017.
Likewise, there are significant increases in the asset size of Islamic mutual funds, Modarabas, Islamic REITs and Takaful companies. It shows that the pace of growth of Islamic finance overall in the Pakistani market is accelerating due to better awareness, appropriate regulation and efficient processes which ultimately push and encourage the demand for Islamic products and services.
The remarkable decision of the FSC for the conversion of the entire banking industry into Shariah compliant banking by 2027 will further boost the Islamic finance services industry with the fastest growth in the said segment. Furthermore, in the advent of digital banking in Pakistan, this also motivates new market players in Islamic banking to engage in new segments through digital platforms to reach out to the masses and offer Islamic products and services.
Conclusion
The achievements made by the Islamic finance services industry in Pakistan during the last few years are remarkable. The SBP and SECP have full determination and commitment to establish a robust and sustainable Islamic financial system which can reach out to the masses. Islamic fintech and digital banking are important segments to address the issue of financial inclusion in Pakistan.
Many other emerging economies have used the digital route for further expansion and Pakistan is no different. Pakistan has the second-largest Muslim population in the world with very low banking penetration. The government of Pakistan is fully determined to increase financial inclusion through promoting Islamic finance, as part of the National Financial Inclusion Strategy.
Moreover, capacity-building and raising awareness in the masses are critical to the progress of Islamic banking and finance which also needs concentrated efforts by the government and market players. There should be a consensus among all stakeholders with a well-defined roadmap which fosters the further growth of Islamic financing while ensuring the creation of value in attaining an equitable and sustainable Islamic financial system. The Islamic finance services industry is on the path to fully capitalizing on the potential of Islamic finance to reach out to the unserved and underserved segments of society.
Muhammad Shoaib Ibrahim is CEO and managing director of First Habib Modaraba. He can be contacted at [email protected].