Growth slows for Islamic banks in Middle East and North Africa

Published in MEED, 27 November 2017

Islamic finance may not have reached a plateau, but it does appear to be losing momentum in its battle for market share with the conventional industry.

The number of Islamic banks in the nine countries in the Middle East and North Africa (Mena) region tracked by the Malaysia-based Islamic Financial Services Board (IFSB) has barely changed in the past three years, rising from 116 in the first quarter of 2014 to 122 by the end of March 2017. The number of branches run by them has only expanded by a few dozen, from 23,524 in March 2014 to 23,581 by March 2017.

The slow growth is not restricted to the Mena region. Across most of the 17 member countries of the IFSB, which between them account for 90 per cent of the global Islamic banking market, there is a similar story. The total assets of the sharia-compliant industry in these 17 markets grew from $1,391bn at the end of March 2016 to $1,480bn by March this year, an increase of 6.5 per cent. Total lending expanded by 9.7 per cent, from $882bn to $967bn, while banks’ liabilities (including deposits) increased by 6.1 per cent, from $1,283bn to $1,362bn.

While there is clearly still growth in the market, it is not the double-digit expansion the industry had got used to in recent years. Perhaps more worrying is the fact it is tapering off at a time when Islamic finance is still only a niche activity in most countries.

According to the IFSB, there are only 12 countries where Islamic banking has a market share of above 15 per cent; just six where they have a market share of more than 30 per cent; and only four where the proportion is more than 50 per cent. In the other 35 member states of the Riyadh-headquartered Organisation of Islamic Cooperation, the market share is small or negligible. For some industry observers, these are warning signs that ought to be heeded. “We have to build a bigger, more transparent market for Islamic finance,” said Zahid ur Rehman Khokher, acting secretary-
general of the IFSB, at the IFSB Summit in Abu Dhabi on 23 October.

It is not just about banking products. The markets for sharia-compliant insurance (takaful) and bonds (sukuk) are also under-developed in most parts of the world, and average assets under management of Islamic funds decreased from 2015 to 2016.

The problem, particularly for sukuk, often comes down to complexity and a lack of standardisation, which in turn leads to higher costs. One international banker says the amount of work involved in issuing sukuk remains “drastically different” compared with a conventional bond, particularly for a company or sovereign issuer tapping into the market for the first time.

The risks have been amplified by UAE-based Dana Gas’ attempts this year to have its $700m sukuk declared invalid so it can replace it with new instruments offering lower yields. The complex legal proceedings, which are still ongoing, have raised concerns about how dependable such instruments can be and have prompted some investors to shun the entire sector. “I’ve heard a couple of pension funds will no longer go near a sukuk because it’s too much work to understand the sharia complications,” says one Dubai-based financial analyst.

Among some non-traditional sovereign issuers, there are also signs that interest is drying up. A few years ago, there was a wave of non-Muslim majority countries stepping into the market, including the UK and Luxembourg in 2014. “Since that time, it’s really dried up,” says one market observer.

Despite all this, there are some areas of better news. Even if the global industry is not growing particularly quickly, the Middle East is home to the largest and fastest-growing Islamic banks.

According to the World Islamic Banking Conference Leaderboard, published in October, the market is led by Saudi Arabia’s Al-Rajhi Bank, with $92.2bn in assets as of the end of June, followed by Kuwait Finance House, with $56.7bn, and Dubai Islamic Bank, with $52.6bn. In addition, the two fastest-growing institutions are Oman’s Alizz Islamic Bank and Bank Nizwa, with annual asset growth of 51 per cent and 49 per cent respectively.

If fast growth is to become the norm again, it will require a far wider take-up of Islamic banking products than currently exists. That will probably only happen if the industry is able to advance in several areas, including improved and lower-cost service delivery through the use of digital channels, greater standardisation of regulations across countries and structural changes to improve liquidity for sharia-compliant banks.

These are all long-standing shortcomings of the industry. If the slowdown in growth persists, it may provide the motivation the industry needs to start addressing them. “There is no space for complacency,” Khokher told the audience in Abu Dhabi.