Islamic banking gets the blues

Islamic banking gets the blues

Ultraconservative investing methods were supposed to make Islamic finance immune to the financial crisis. So what happened, asks Trends magazine.

February 3, 2010 3:55 by Sarah Abdullah

Just how immune are we?

Islamic finance conjures up an image of safe methods of investing, saving, and purchasing without having to worry about interest or excessive leverage.

But it’s becoming clear that Islamic finance’s conservatism did not fully shield it from the ills of the economic crisis. “The word immune is inappropriate here,” the president of Jeddah-based Islamic Development Bank, Ahmed Muhammed Ali, says.

“True, Islamic finance is safe from the kinds of risks that conventional finance is exposed to because it insists on tying financial transactions with the real economy all of the time.” But the finger of blame is being pointed at excessive risk-taking by some Islamic financial institutions in the Middle East real estate market and internationally based mutual fund portfolios, which caused an evident effect when the region’s property market took a fall. The property market bubble in the United Arab Emirates burst, and prices in Saudi Arabia and neighboring GCC countries became inflated.

Those rallying in support of Islamic finance argue that Islamic institutions were not at all impacted due to their lack of exposure to speculative products. However, the effects that everyone felt – whether investing in Shari’ah-compliant or conventional products – was unquestionably because of the liquidity crisis.

Even though Islamic finance retains a good reputation because of the apparent failures of conventional finance and its interest-bearing methods, not everyone says that Islamic finance is perfect.

Commercial banks as well as central banks were forced to pump billions into their economies to offset the impact of liquidity contraction and eroding asset values – throwing into relief a major shortcoming of Islamic finance: The absence of liquidity management.

According to a study by the Arab Monetary Fund, the region’s governments are being called on to continue to pursue expansionary monetary policies to ensure liquidity in the markets.

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Tags: Economy, Islamic banking, Islamic finance