Interview: “Trade is the fundamental premise of Islamic Banking”

Islamic Banking continues to make significant strides in the Middle East and North Africa (MENA) region as it outpaces growth compared with its conventional counterparts especially in core markets such as the UAE. The Dubai Islamic Economy Development Centre (DIEDC) has projected that Shariah-compliant banking asset will reach $2.6 trillion by 2020 with a CAGR growth of 9.92% for the foreseeable future. This has implications for the UAE, which is the world’s third largest market in terms of Islamic Banking assets, and where 17% of the country’s total banking assets and 19% of total consumer deposits is considered to be Shariah-compliant.

The Abu Dhabi Islamic Bank (ADIB) has been a key driver of that penetration particularly in the Emirates as both lenders and borrowers shift towards what they consider to be a more ethical and participatory form of banking. While the success of Islamic banking can be credited as a shared endeavour by stakeholders across the wider Islamic world, Islamic banks such as ADIB continue to stand out in terms of revenue and customer acquisition.

Leadership in Transaction Banking
As the era of rapid growth for the industry comes to an end, Islamic banks and Shariah based lenders will seek to diversify their sources of funding while ensuring that asset quality is maintained. This has risen in importance given the intensification of competition in the marketplace and volatility in energy markets. Islamic Banks are hard pressed to evolve in building sustainable businesses, which can reach some acceptable level.
At the helm spearheading the transformation at ADIB is CEO Tirad Al-Mahmoud who has pioneered expanding the bank’s focus from its primary retail banking business to include transaction banking services. “We want to become a top-tier transaction and digital banking institution,” is how Tirad described his aspirations for ADIB as he seeks to make the transaction banking side of the business a pillar of the bank’s competitive advantage.

Given the evolution across the whole spectrum of cash and trade, customers today are expecting that the suite of products being offered are supported by systems and solutions that match international standards. ADIB is equally keen on building its technology competencies while it works towards reducing infrastructure gaps with other larger global transaction players. Certainly, given the prevailing market demand there are opportunities for regional banks to scale up and strengthen service offerings for customers powered through new technologies.

For ADIB capability building is an essential pre-requisite to be able to effectively compete with regional and global players, while ensuring that processes such as payment automation or unique liquidity solutions meet the needs of clients. However, the bank does not consider a change in systems as the only stop in its transaction banking journey. They have taken a more integrated view that involves enhancing internal processes and hiring the right people to support the programme of change and facilitate the bank’s product set.

Looking East
A part of the bank’s expansion strategy also involves deepening its existing relationships with other financial institutions and corporates in Asia. “We think that the Middle East starts with us and we are part of this huge economic phenomenon, now that economic activity in the world is gaining more and more gravitational pull to the East,” said Tirad. He also observed that trade linkages between Asia and the Middle East are old and historic, preceding modern transaction banking facilities making inter-regional partnerships possible.

To that end, Tirad underscored that MENA was essentially ADIB’s backyard, pointing out the bank’s presence in seven critical markets including Egypt, Iraq and UAE gave it presence and depth. He stated that “we need to leverage the strong local presence that we naturally have in the Middle East, coupled with technology that we benchmark against global banks and come up with a good combination.” Tirad did point out that ADIB is not positioning itself to become global transaction bank, given the natural funding constraints and the limited return on investment potential across 70-100 markets.

Prospects of Islamic Trade Finance
Certainly, an important element in growing ADIB’s-albeit any Islamic bank-transaction banking business are trade finance solutions. Given the prevailing trade flows between the Middle-East and Asia, Shariah compliance trade finance solutions are well-positioned to offer clients a more suitable structure aligned with their business model. Islamic trade financing is inherently less risky compared with its conventional counterpart owing to the ownership structure it provides. Notwithstanding the philosophical proposition of being an ethical transaction, Islamic trade finance has not realised its full potential and remains grossly underutilised.

Most estimates of Islamic trade finance as a percentage of total trade flows by member countries of the Organisation of Islamic Cooperation (OIC) are around one percent. Tirad commented that “trade is the fundamental premise of Islamic banking,” elaborating that “this is what we should embrace and should be our 100%.” He went on to add that “directionally Islamic banks should own the space in trade because this is what God has ordained in the Holy Book – specifically trade, literally trade and nothing else,” marking a clear distinction between it and riba (interest). He went on to add that the lack of traction in Islamic trade finance can be attributed to the prevailing mind-set and not to a particular challenge being faced in the marketplace per se.

Scaling-up
Perhaps, it is the structure of the international financial system today that sees a few large global transaction banks moving trade flows that has inhibited the growth of the Shariah-compliant version. It is on the onus of Islamic banks like ADIB to continue and support the growth of Islamic trade through its intra-regional presence and innovative product set. Tirad was adamant that regulators can help in driving this change, but it was for banks themselves to decide whether they want to remain on the conventional track or to pursue Shariah-compliant lending - both options being mutually exclusive.

As the thinking on wider Islamic banking continues to evolve Tirad strongly recommends that simplicity and going back to basics be embraced as the new paradigm in regulations. “This means having simpler business models, solutions and philosophies. The confusion that may have existed in the world before the financial crisis is what led to the financial crisis.”
This is certainly worth reflection by all stakeholders desirous of financial stability and resiliency.