Amid the gloom of the global economic crisis, many are hopeful that investors will turn to Islamic finance as the less risky option. Meanwhile, the relatively nascent market needs to play catch up with rising demand.
Ibrahim Warde, adjunct professor of international business at the Fletcher School of law and diplomacy at Tufts University, works on the Islamic Finance Project at Harvard University. He has authored three books – including “The Price of Fear: the Truth behind the Financial War on Terror – numerous articles for Le Monde diplomatique and lectures at institutions worldwide on the topics of banking and finance.
The TREND Training Center, along with the Egypt Stock Forum, invited Warde to instruct the “Islamic Banking and Finance training program held recently in Cairo. Warde sat down with Daily News Egypt to discuss the development of and challenges facing Islamic financial institutions.
Daily News Egypt: In 2000, when your book “Islamic Finance in the Global Economy was published, how was Islamic finance being approached and how has it developed?
Ibrahim Warde: Much of what was being written about Islamic finance back then was either saying it was a perfect system or a deeply flawed system. What I tried to do is look at both sides.
It was more about trying to explain a paradox that was right in the middle of globalization. You have this very old system that reappeared, and so the core of what [the book] looked at was how a system of medieval tradition could rise in the midst of globalization. How in the 1970s, because of the oil boom and the rising role of Saudi Arabia, Islamic finance appeared on the scene and then how it has evolved towards more pragmatism.
I did anticipate that Islamic finance would grow very rapidly and continue to grow in the double digits. I didn’t quite foresee the huge growth that has happened. The September 11th attacks had a number of indirect consequences, including the strengthening of Islamic finance.
The other interesting thing about the development of Islamic finance that was hard to predict was the impact of the current financial crisis. In Islamic finance you have many prohibitions – on short-selling, on selling debt; there’s a dislike for excessive debt – which has led many promoters of Islamic finance to say that under this system normally you couldn’t have the sub-prime crisis. This is because the sub-prime crisis was all based on excessive leveraging, on the selling of debt etc.
So people all over the world have been paying attention to Islamic finance, not necessarily because it would have solutions to all these problems; but because it is institutionalized and has embraced conservative principles.
Certainly, one of the consequences of the last couple of years is a sense that conservatism is something that was ignored and forgotten.
Is it because of the nature of the current crisis or just the development of Islamic finance that has caused demand for conservative finance?
It is a difficult question because on the one hand, Islamic finance was limited in what it offered, mostly because it was just a very young industry when it came into existence in the 1970s. It didn’t exactly have time to go through what conventional finance has gone through.
The fact that the big financial crisis happened has led people in Islamic finance to say we should not simply mimic conventional finance, as the trend seemed to be towards trying to see what conventional finance does and to do the same thing.
Right now I think that Islamic banking, as a form of conservative banking, is regarded as maybe something to be looked at. In the world of finance, everybody assumed that there was a single model of finance and [they] were copying the Wall Street model especially.
The fact that the Wall Street model that was based on open-ended innovation and leverage had more or less collapsed made people look at alternatives. And it so happens that Islamic finance is one of the very few alternatives that are available today.
I think conventional systems have pretty much forgotten about ethics. There was an implicit assumption in conventional finance that the market place will take care of issues of ethics.
The fact that Islamic banks are always asking questions before innovating is really what is interesting about the Islamic finance model. When you think of a product, in conventional finance the only questions you ask are ‘is there a market for that?’ ‘are we going to make money from that?’
Also, Islamic finance has an anti-speculation bent to it, in that you cannot bet on certain outcomes. Whereas in conventional finance, for example, the credit default swaps were a giant system of side-bets and an incentive system that encouraged very risky behavior. Islamic finance has a more negative attitude towards speculation that is quite unique.
What about Islamic financial systems in the Egyptian economy?
Well in the Islamic world it would make sense to take a serious look at Islamic finance. I know that Egypt is in a special position within the Islamic world in that there is a history in terms of some bad experiences, not with Islamic banks but with Islamic money management companies, around the 1980s, and I think it had a traumatic effect on Egyptian society.
So now could be a good time for sober reflection on all those questions and to understand, for example, how to set up the system that learns from past mistakes and, at the same time, does not forget the big issues of ethics and all those rules of conservative finance.
I think that there is a lot of pent-up demand for Islamic finance in Egypt. If you look at the population at large, there is a lot of interest in Islamic finance. As the Central Bank starts loosening restrictions, I think there is potential for a big boom. My understanding is that the potential is there for the Egyptian economy and high demand exists.
Paradoxically, one of the challenges is the very burst of interest in Islamic finance which is always a bit worrisome. With any sudden demand, the risk of a bubble forming and bursting becomes apparent. The main risk of Islamic finance is in fact in its popularity. Probably Egypt, because of the memory of what happened in the 1980s, would be very cautious of something that catches fire.
So that’s the kind of thing that financial regulators are very keen on making sure they can control: the growth, so that it doesn’t get out of hand. I would say this regulatory function is probably the main challenge.
Describe the environment in the US for Islamic finance.
Ironically, in late November, the US Treasury Department organized a day of information on Islamic finance which they called “Islamic Finance 101; and the goal was to educate the regulators. Of course, there is a great deal of Islamophobia there so on the day this happened, there was a press campaign saying that “the US government supports terrorism. I think that all things having to do with Islam in the US are likely to elicit this kind of reaction.
The example of the UK is a useful one. The government, since the time when Gordon Brown was Chancellor of the Exchequer, had a policy of encouraging Islamic finance and turning London into a hub for Islamic finance. I don’t think this will happen in the US because there is a big current of Islamophobia that is not as significant in the UK.
My recent book, “The Price of Fear: The Truth Behind the Financial War on Terror, is mostly about the financial aspects of the war on terror, a critical assessment of, first of all, a lot of the beliefs that drove the financial war on terror that were based on mythology.
There were many ideas about the location and centrality of money, so going back and looking at all the elements of this mythology we discovered that it was mostly rooted in fiction.
The other thing is that there were many political reasons that explain why there was this focus on finance. Finally, there are bureaucratic reasons why things evolved the way they did.
So the bottom line is that the first front of the war on terro
r was a financial front. On September 24, President Bush announced a war on the financial foundations of terrorists and he said that money is the oxygen of terrorists.
Now, of course, terror has continued worldwide despite all those measures, so obviously the belief that money is the oxygen to terror has to be revised.
I notice a lot of curiosity at Cairo sessions, a lot of discussions and almost not enough time to answer so many questions. So just from the intellectual standpoint, it is an interesting subject and certainly in light of the current financial crisis, there is a great deal of interest.
