The Islamic finance industry has generally responded well to the ongoing COVID-19 pandemic. Although many challenges remain globally, digitalization across all aspects of the Islamic finance industry has moved at incredible speed.
While this is not a new concept, the Islamic finance industry has historically been slower to adapt to technological advances than its conventional counterpart, due to a traditional reliance on complex, manual processes. The pandemic has forced the industry to rethink. More than ever, market participants are seeking out the best technology solutions available, which in turn is driving growth in the fintech start-up space.
The pandemic has forced banks and financial institutions to change their business models and adopt new, digital processes in order to sustain growth in the uncertain economic landscape. Integration via application programming interfaces has become a prevalent software interface, facilitating greater financial transparency and creating efficient, tailored solutions for the end customer.
The industry is becoming increasingly connected as a result of integration. Third-party integrators and fintech disruptors have played a key role in this and will continue to do so as technology solutions evolve.
Fintechs challenging the norm
Fintech companies are absolutely vital: they can act as an important driver of financial inclusion by pushing the boundaries of financial innovation by challenging incumbent systems and processes. These points are overrepresented in predominantly Muslim countries, where people are largely underserved financially. Cloud banking platform Mambu recently surveyed 2,000 young Muslims and found that over half (53%) would choose Islamic banking, if barriers to entry were removed. This shows there is significant demand for banking services that are easily accessible and aligned with the people’s faith.
This is where the new entrants have the advantage. Fintech start-ups, unencumbered by decades of legacy technology and bureaucracy, are able to construct scalable solutions which are quickly deployable. These companies are developing their products and services to meet consumer demands, while at the same time embracing faith, environmental, social and corporate governance factors. However, because the products and services being developed by fintechs are so new and unique, they often require assistance from local regulatory bodies to launch and, quite often, the regulators do not understand the impact of these new products and services.
Regulatory support is crucial for growth
In order for fintechs to thrive, it is critical that regulatory authorities respond and adapt quickly to the fast-moving fintech revolution. Timely regulatory support is critical, particularly for fintechs bringing entirely new concepts and technologies to market. This is not always easy to achieve, as from a regulatory perspective, authorities are focused on issues such as the management of public data, cybersecurity, consumer protection and data privacy. To mitigate these issues, regional regulators are working hard to define the rules around the type of data that financial institutions can share, the types of products and services that are allowed and which customers are eligible.
The Capital Market Authority of Oman has recently authorized the use of crowdfunding platforms in the Sultanate as an alternative means to fund SMEs. In the UAE, the Dubai International Financial Centre has developed regulatory frameworks specifically to enable fintech innovation. The Saudi Central Bank, the Central Bank of Bahrain and Bank Negara Malaysia (the central bank of Malaysia) have been operating fintech sandboxes for some time which allows new digital fintechs to develop, test, scale and monetize — while under the watchful eye of the regulator who is developing new legislation to support these new digital initiatives. These fintech sandboxes are interconnected through the Global Financial Innovation Network, built on a 2018 proposal from the UK’s Financial Conduct Authority to build a global sandbox “committed to supporting financial innovation in the interests of consumers”.
Digital banks could be the game changer
Digital banks may bridge the gap between the traditional Islamic banks that are adapting to the changing environment and the innovative concepts being developed by fintechs. Islamic digital banks have been launching at a furious pace over the past six months, offering a lean, digital experience and incorporating the core beliefs and values of their customers. Being solely online also allows digital banks to scale quickly and build their customer base as most products and services are available online, primarily via mobile apps. This presents an enormous advantage in markets such as Africa or Southeast Asia where financial inclusion is low, but most people have access to a smartphone.
These Islamic digital banks are being built on composable banking platforms, making them as nimble as a fintech start-up while offering the full suite of products and services, similar to that of their traditional counterparts. Composable banking platforms allow financial institutions to choose off-the-shelf and cloud solutions, as well as custom-built platforms. Each system performs its own function but is integrated for flexible assembly and allows the bank to build, test and release new products or services rapidly, instead of being locked into a rigid core banking platform with hard-coded integrations. These digital banks are building scalable, Shariah compliant solutions that allow them to constantly evolve with the market and technological advances.
Third-party integrators on the rise
Other collaborators supporting the integration between banks, financial institutions and fintechs have recognized that an opportunity exists to offer aggregated straight-through processing to financial institutions. In May, Instimatch was the first to announce that its platform could offer money-market borrowers and lenders end-to-end Islamic trading that is fully automated for straight-through processing. Refinitiv followed suit very quickly with its own integrated solution for Islamic money market transactions such as Murabahah, Wakalah and Mudarabah. These platforms allow financial institutions to access seamless integrated solutions that aggregate multiple systems within a single environment to deliver a better quality of service to their customers while also eliminating manual processes and reducing operational risk. ConnectIf is another such example of a collaborator that is working to make master documentation and know-your-customer management, trade execution and post-trade management accessible through its third-party platform for a full-service solution.
Financial institutions are moving quickly to update their slow and cumbersome systems and processes in a rapidly evolving environment of innovation and changing consumer behavior, but will it be fast enough? Fintechs, digital banks and third-party platforms are quickly filling the space and soon traditional financial institutions may find it difficult to stay relevant. Regulators and central banks help to provide a base for digital innovators to grow and prosper, but they themselves are often large bureaucratic organizations that take time to fully understand the implications of introducing new technology and provide the stage for fintechs to expand. So, this may provide some breathing space for traditional financial institutions to adapt or possibly adopt new technology. Either way, digitalization is exciting for Islamic finance and the COVID-19 pandemic may well be the greatest shake-up of the industry since its creation.
Eiger is the leading technology-focused, Shariah compliant, commodity facilitator in the Islamic finance market. Our role is to work with all participants in the industry openly and with transparency to provide digital and innovative solutions, with a customer-centric approach.