Dubai – Decypha: Diversifying sectors and potential activities to foster growth has become a great motive for gulf countries such as the United Arab Emirates (UAE). The country is thoroughly establishing a well planned capital market development; one primary example would be the country’s Islamic finance industry. The country is known to lead the movement in the region, despite the sector’s young age and low contribution value to the national economy.
Defining Islamic Financing
The basic types of Islamic finance that used in Islamic banks are meant to attract funds and provide financing in Islamic methods. A valid contract in Islamic finance requires to be valid under four requirements including a mutual agreed upon price, each party understand legal implications proceeded, the subject of the contract should be delivered without complications or deception, and that the contract should not be based products that are prohibited by Shari’a such as pork and alcohol, according to a report by Dubai Chamber.
Similar to any operating bank, Islamic financing banks run similar financing activities with exception to trivial matters such as saving accounts where customers might be restricted to the amount of money they may withdraw or maybe required to notify the bank beforehand; in return the bank may reward its clients with a profit-share generated from their deposits at the end of its financial year.
Investment accounts operate through ‘Mudaraba’ contracts, where deposits are held for a specific period and the profits generated from this investment are shared between the bank and the client at a certain ratio. Another difference is the Trade Finance where Islamic banks, according to Dubai Chamber, use ‘Morabaha Contract’ in which a client does not have enough credit with the bank and through this contract the bank earns its yields from the mark-up profit. Project Finance in Islamic Banks is also provided through the Mudaraba contracts while these banks finance assets acquisition by using the ‘Ijara’ contract.
Market Performance
The banking system is viewed as promising in UAE, with assets equal in value to 204% of the country’s GDP by the end of March 2017, amounting to a total of AED 2.6 trillion, according to the IMF report; with three major banks representing over 50% of total assets of the banking system in the country. Furthermore, the capital ratio of the entire UAE banking system has reached 18.6% at the end of March 2017.
As some of the world’s Islamic banks headquartered in UAE, Islamic banks are said have achieved assets of AED 522 billion by the end of March 2017. Islamic Banks’ gross credit has increased by 8.4% to reach a total of AED 343 billion in the first quarter of 2017.
Approximately fifth of the country’s banking assets are represented in seven main Islamic banks out of the 23 registered as commercial banks in the country. The banks’ assets grew triple the assets of the traditional banks in the first quarter of 2017, according to UAE’s Central Bank’s latest quarterly report cited by an article business portal AME.
The article further stated that domestic credit of the Islamic banks increased by 7.4% to reach a total of AED 325 billion in the first quarter of 2017 which is a 41% higher than that of conventional banks. Credit to individuals given by banks have achieved 7.6% to reach a total of AED 126 billion in the first quarter of 2017 compared to 2% achieved by normal banks’ credit to individuals, amounting a total of AED 224 billion.
Islamic Financing Projects
Several Islamic financing deals have lately sealed in efforts to boost the industry including the country’s efforts to establish the world’s first Shari’a- compliant trade bank called ‘Emirates Trade Bank’ to pave its ways into becoming the leading country of Islamic economy, according to an article by The National. The decision to set up the bank was planned by the Dubai Islamic Economy Development Centre (DIEDC); that pointed out that the new bank will be operating in international trade and commodity finance. The bank will be offering these services through leveraging and mobilizing the infrastructure and logistical environment in the country.
Working as a great advocate for UAE’s financial sector, the bank will integrate investments and double the country’s trade flows by 2020, which is said to have stood at AED 1.4 trillion. The bank is also expected to boost finance relations between GCC countries and countries located in central Asia and Africa, creating a new source of liquidity for trading between Islamic countries.
Another ambitious Islamic financing contract that has been lately signed is the National Central Cooling Company (Tabreed) inking an agreement for Islamic finance facilities worth $412 million, according to an article by Construction Week Online. Valid until 2027, the contract is meant to provide additional funds for capital expenditure and investment purposes, whereas among the finance facility’s listed arrangers are Abu Dhabi Commercial Bank, Abu Dhabi Islamic Bank (ADIB), and Mashreq Al Islami.
Government Policies
There have been long suggested solutions to integrate economic prosperity in UAE Islamic financial markets including the issuance of the dirham-denominated debt at medium to long-term maturities; where the government can create debt management offices to monitor debt. Sukuk issuance could be integrated in this aspect, the calendar of debt issuance according to the IMF report.
The government treats Islamic banks as companies who are obliged to apply Islamic Shari’a law and their operations would adhere to that law where they are also treated as commercial institutions. The banks are required to operate in a form of a public joint-stock company and must be licensed by the Central Bank according to Dubai Chamber. The banks are allowed to accept deposits from the public to invest in accordance to Shari’a laws.
Challenges & Opportunities
UAE’s general economy is undergoing new challenges following oil prices stagnation, where current account surpluses have declined and fiscal surpluses became deficits therefore accumulating deposits in the banking system has became fragile. Another challenge, according to the IMF report, is the normalization of U.S interest rates and banking regulatory changes in the country which present obstacles liquidity management in banks.
Despite the challenges in the banking sector that is also affecting the Islamic financial market, opportunities continue to prosper where Islamic banking assets will support economic growth in what is called the country’s ‘Halal sector’ according to a research by Orange Fairs and Events, organizers of the Halal Expo Dubai 2017, cited by AME.
UAE high assets and growth credit will encourage Islamic banks to fund these Halal industries and activities therefore inevitably engaging these Islamic banks in ethical finance and asset-based lending that protects the sector from economic crisis.
Industry Key Players
With the meticulous plan of becoming the region’s Islamic economy hub, UAE owns several Islamic banks operating major transactions worldwide. Among these banks is the Abu Dhabi Islamic Bank (ADIB) which has been recently recognized by the Financial Times as the most respected in the financial industry for its innovative and mobile services and strong leadership in the region’s Islamic finance industry, according to an article by Zawya. The bank performs over 90% of its transactions via digital channels such as mobile app and has witnessed enrollments increase by 40% last year.
Another successful key player is Sharjah Islamic Bank (SIB) that acquired total assets of AED 33.5 billion by end of 2016, according to a report by CPI Financial. Closely tied to the government, the bank operates nationwide. Dubai Islamic Bank (DIB) is another industry key player that has managed to record a group net profit increase by 7% to reach AED 2,143 million in the first half of 2017 and a total income increase of 15%, amounting AED 4,865 million, according to the financial results released by the bank.
UAE has been a pioneer in Islamic finance industry, based on given data from leading Islamic banks in the region headquartered in the Emirates, and according to the fact that the first Islamic bank worldwide was launched in the 1970’s in UAE. The sector, although confronted with challenges, is healing through implementing Islamic financial mechanisms. The UAE civil code that is led by a Shari’a foundation tend to support these ambitious mechanisms applied in credible Islamic transactions.
By Fatma Khaled
