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Need of Islamic Banking in India and its challenges

HEENA KHOWSER

Assistant Professor of Commerce & Management, Government First Grade College, Pandavapura, Mandya

Abstract

Banking is the lifeline of any Modern economy.It is one of the important pillars of the financial system, which plays a vital role in the performance of an economy. Banks play an important role in the mobilization of deposits and disbarment of credit to various sectors of economy. For the last couple of years the growth of normal banking. Currently there are more than 300 Islamic banks throughout the world holding assets over $200billion. The Middle East, The South East Asia (Which primarily include Malaysian and Indonesia) and Europe are the main emerging hubs of the Islamic Banking and finance. The Focus of Islamic banking in India as well as the accompanying challenges of Islamic Banking in India.

Introduction

Banking is an important financial intermediary and essential institution in the present global economic system and in agriculture sector which plays important role for the economic development of a country like India. Among the Bank Sector one of the Important bank which is based on Islamic law called Shariah is Islamic bank and based on Interest free banking and permits only profit sharing based banking system of early as 1940”S Quran that says “ Allah has allowed only limited trade and prohibits interest “. Islamic banking having the same purpose as conventional banking except that it operates according to Muslim law called Shariah. Islamic Banking, the more general term is excepted not only to avoid interest based transaction, prohibited in the Islamic Shariah, but also to avoid unethical practices and participated in achieving goals and objectives of an Islamic economy.

Origin

The Origin of Islamic Banking system can be traced back to the advent of Islam when the Prophet himself carried out trading operation for his wife. The “Mudarbah” or Islamic partnerships has been widely appreciated by the Muslim business community for the centuries but the concept of “Riba” or interest has gained very little diligence in regular or day to day transaction.

The first model of Islamic banking system came into picture in 1963 in Egypt, Ahmed Al Najjar was the chief founder of this bank and the key features profit sharing on the non interest based philosophy of the Islamic Shariah. This banks actually more than financial institution rather than commercial banks as they pay or change interest on transactions. In 1974, the organization of Islamic countries (O I C) had established the first Islamic bank called Islamic Development bank (IDB). The business model of this bank was to provide financial assistance and support on profit sharing.

By the end of 1970, secular Islamic banking system have been have been Established throughout the Muslim world, Including the first private commercial bank in Dubai (1975), the Bahrain Islamic Bank(1979) and the faisal Islam Bank(1997)

Objectives

To Known the basis of Islamic banking practice

To Study the recommendation of Raghuram Rajan committee for introduction of Islamic banking in India.

To provide a quick round up of the world Islamic banking scenario

To highlight the potential & need of Islamic banking in India with accompanying challenge

Methodology

The Study is mainly based upon the collection of Secondary data. The Secondary data has been collected from various sources of publications such as Research articles, Magazines, Journals, Internet, and unpublished thesis.

Basic Principles of Islamic Banking

Payment and Receipt of Interest (Known as Riba) is strictly prohibited (Haram).

The business is based on profit and loss sharing.

Certain industries, such as Adult Entertainment, Alcohol and gambling are “haram” (disallowed by Shariah) and prohibited for Investment. This is why Islamic banking also referred to as ethical banking.

Banks may not lease or lend any product that they do not wholly own.

Trading in Debt is also not allowed, which is why banks do not deal in Traditional bonds, rather they have their own version of such instruments called Sukuk(Islamic Bond)

Interest free loans (Qard Hassan) are encouraged to spread financial inclusion.

Presence of Islamic Banking in World Economy

During the past decade, the assets of Islamic banks have grown at an average rate of 15% Many Development Countries of the World, such as Germany, Uk, USA, France and Singapore have embraced Islam Banking to take the tally of countries where this form of Banking is already operational as an alternative system. The robust performance of the Islamic banking and finance sector during

The recent financial downturn has attracted the attention of swear other nations. Major multinational banks including HSBC Amanah, standard chartered Saadiq, Lloybs TSB bank and citigroup offer products in accordance with Islamic banking principles western nations like the UK are promoting Islamic finance following the principles of “ no favor , but no discrimination “ former prime minister Gordon brown, who was finance minister when Islamic banking was introduced. In the UK, was so confidence of the system that he predicate London would become its future gateway. The results today vindicate its predictions. This is why, at a time when other banks are facing closure, the Islamic bank of Britain is expanding its network in the UK and being asked to do the same in Europe.

Islamic banking in India

In India the scope of Islamic banking is very large because 140 million Muslims live in India which is around 15 percent of the Islamic population. According to standard & poor’s ratings services the potential market is $4 trillion worldwide , therefore this can be a tool for enhancing economic development in India. This will provide opportunities to the community. There are several foreign banks operating in India, like Citibank, standard chartered bank, HBSC are operating interest free windows in several west Asian countries, USA and Europe. The growing awareness about the concept among Indian banks have been generally felt that there is a huge potential market in India for Islamic banking.

Islamic Banking has been approved by RBI in India. This welcome development was expected after Dr Raghuram Rajan took power as the governor of RBI replacing D.Subharao whose position on Islamic banking was not favorable. Dr Raghuram Rajan, a former chief economist IMF [International Monetary Fund] and the chief Economic Adviser to the Finance Ministry was head of the high level Committed of the Financial Sector Reforms(CFSR) of the Planning commission, which recommended Islamic Banking to be approved in India. So, when on Aug 6, 2013 Dr Manmohan Singh approved Dr. Raghuram appointment as a governor of RBI finally gave a “Go Ahead to it” Yet Indian banking laws have not allowed Islamic Banking to be practiced in the Country, but there was no Indian Law which prohibited teaching Islamic banking in its colleges & universities. The responsibility rests with Universities and educational centers. There have been skeletons of such courses in India like Aligarh Muslim University’s Department of Faculty of Management study and Research and its Department of commerce and Kalasalingam University, to name a few now after the RBI approval, The Sullamussalam Science College at Areekode affiliated to the Calicut University, has become the first college in Kerala to offer a 3 years degree course in BA Islamic Finance, Interestingly, the said course has been accepted for funding by the UGC under “Innovative Program for teaching and Research interdisciplinary and emerging areas” Instition like Al Jamia Al Islamia, a religious at Santhapuram have also been seeing growing interest for its postgraduate Diploma in Islamic Economics and finance[PGDIEF] course. It also offers IGNOU diploma courses in Islamic Banking, Islamic Banking has Islamic Finance and Islamic Insurance, Today Islamic booking has a presence in India in the form of NBFCs and Baitul Mal (Islamic Treasury) , but the business is small. These institutions mostly work at the regional levels, catering to a niche segment. Many Indian Institutions, Including some government-owned ones, have shown interest in this growing niche opportunity. For Example, Kerala Government Owned KSIDC has Al Barakah Financial Services Ltd, GIC of India runs an Islamic re assurance scheme; and several mutual fund schemes invest explicitly in compliance with Islamic rules TASIS, an Index on the Bombay Stock Exchange representing only Shariah – compliant stocks, is the first of its kind in India.

Need of Islamic Banking in India

An Islamic finance originates from religious principles, it is also a workable model of investment, based on risk sharing. The nations, which have adopted Islam Banking have done so because it make business sense. Islamic banking is about encouraging and facilitating investment in real economic activity and societal welfare, while prohibiting investment in reckless business such as gambling, alcohol and adult entertainment or risky financial products. Apart from being a viable alternative to extreme risks, the interest free solution of Islamic Banking could restore equilibrium in Indian society by providing succor to debt-ridden farmers, laborers and other marginalized groups. Hence, Islamic Banking has potential as a tool of financial inclusion. As per the Pew Research Center, India was home to nearly 177 million Muslims in 2010, making it the country with the third largest Muslim population in the world. A considerable number of Indian Muslims either invest in non-interest bearing accounts or donate the interest from the interest-bearing accounts to charity. There is an opportunity for Islamic banks to attract funds that interest paying convention banks cannot. Traditionally, Indians practiced participated by creating co-operative banks, non-banking financial institutions and micro credit programmes, the same platform can be used to introduce Islamic Banking.

According to the planning commission, India is facing a gap of US$300 billion – or 30%- in meeting its infrastructure funding requirements until 2017. Following the examples of countries such as Malaysia, Indonesia, UK, France and Germany, India could use Islamic financial products such as sukuk [long term bond] to fund infrastructure and other sectors. Specifically, India could attract the Middle East’s high investible surplus through Islamic banking.

Challenges for Islamic Banking in India

 Regulatory frame work:

“Indian Banks are regulated by the Indian Banking Regulation Act (1949), The Reserve Bank of India Act (1935),The Negotiable Instruments Act and the Cooperative Societies Act (1986). Some of the obstacles of Islamic Banking regarding regulation are:

Section21 of the Banking Regulation Act requires payment of interest which is against shariah.

Section 5 & 6 of Banking Regulation Act disallows banks to enter into any profit sharing and partnership contract-the very basis of Islamic Banking

Section 9 of the Banking Regulation Acts prohibits to own any sort of immovable property apart from private use- this is against Ijarah (for home finance. Thus to allow Islamic banking considerable amount of changes on law have to be made. One way is to keep the current legislation applicable for existing banks and amend specific legislations applicable for interest free banks. A new regulatory body will oversee them and help them make enforce accounting and auditing standards.

 Support Infrastructure

Commercial banks borrow from other banks or the RBI to meet their short term funding requirements, but Islamic banks can’t do so because it involves interest. Islamic banks are required to closely monitor their investments in various businesses, as well as ensure that the investee firms are managed properly. This calls for expensive Supervisory infrastructure.

 Dearth of Islamic banking professionals:-

There is a serious dearth of Islamic banking experts and trained personal in India. Although there are a few training institutes, they are unable to compensate for the shortage of experienced Islamic banking professionals.

 Lack of awareness:-

There is a lack of awareness about Islamic Banking. Most People mistakenly believe that it is only meant for Muslims, whereas in Malaysia, UK and elsewhere, 40% of the customers of Islamic Banks are Non – Muslims. Banks should educate customers regarding the benefits of Islamic Banking.

Suggestions

The latest RBI directive is clear that Islamic banking can’t be adopted in India under the current legal framework- India needs to follow the UK example and introduce new laws to govern the Islamic Banking Business.

More effort is required in the area of training and education; the state can play a pivotal role in promoting this subject by including in the curriculum of professional courses.

The myth that Islamic Banking is only for Muslims. Must be dispelled, and awareness of Islamic banking