Attitudes, Behaviour, and Patronage Factors of Bank Customers towards Islamic Banks The attitudes of bank customers towards Islamic banks are discussed, together with the perceived unique characteristics of Islamic banks by their customers, and the importance of selected patronage factors in choosing conventional and Islamic banks. It is concluded that in considering motives responsible for selecting Islamic banks as depository institutions, religious motives did not stand out as being the only significant ones; bank customers are profit motivated; the evidence generated in the study did not find an important consideration of the new branches' role in increasing the utilisation of services provided by Islamic banks; peer group influence plays an important role in selecting Islamic banks as depository institutions; and there is a high degree of awareness on the part of bank customers of the advantage of the profit-loss-sharing modes of investment and of the economic and social development role of the Islamic banking system.
Transcript
Attitudes, Behaviour, and Patronage Factors of Bank Customers towards Islamic Banks
The attitudes of bank customers towards Islamic banks are discussed, together with the perceived unique characteristics of Islamic banks by their customers, and the importance of selected patronage factors in choosing conventional and Islamic banks. It is concluded that in considering motives responsible for selecting Islamic banks as depository institutions, religious motives did not stand out as being the only significant ones; bank customers are profit motivated; the evidence generated in the study did not find an important consideration of the new branches' role in increasing the utilisation of services provided by Islamic banks; peer group influence plays an important role in selecting Islamic banks as depository institutions; and there is a high degree of awareness on the part of bank customers of the advantage of the profit-loss-sharing modes of investment and of the economic and social development role of the Islamic banking system.
Islamic Economics can be considered as alternative or choice. take it as competitor not opponent..
After reading your article I would simply say that there is another front seems ready for the west to wage war against Islam and muslims...For centuries the muslim countries and people had no other choice to meet their financial and economic needs were trapped under western rule of business. They were forced without wish or will to follow trends and theories incompatible with islamic teachings.
Now when West see a real competitor breaking the iceberg and attracting a huge number of fresh and untapped customer base..they are now finding ways to abolish or attack it. I would suggest that healthy
competition is required not negative moves. These banks work under strict rules and regulations like other banks working under state monitoring.
Unfortunately most of the foreign banks are also opening Islamic Segments in order to avoid losing their muslim customers. If they are against it then they should strictly stick to their method ...why changing their business style?
One very important point is that there was no concept of banks in early days of Islam but Quran had numerous verses poiting out exactly how to do trade and business and deal with money matters..so the muslim scholars joined to workout new concepts which donot contradict with Islamic Sharia...The results are amazing and profits of these banks are seems surpassing the estimates because they follow Sharia which promises profits of unimaginable extent....Few of the foriegn banks also decided to open islamic segments. See what they say about it
ABN AMRO Islamic Banking http://www.abnamro.com.pk/Pakistan/islamicbnk/aboutus.htmThe emergence of Islamic banking has made banking easy for all those people are looking increasingly for financial products which are in harmony with their religious beliefs. ABN AMRO understands the needs of our local communities, and the ABN AMRO Islamic Banking brand responds to the needs desire of customers for a diversified range of Shariah complaint solutions.
Standard Chartered Saadiq Berhad
Everyone has a vision of the future, one marked by progress and innovation. But every dream can only soar if it’s built upon the
values you cherish the most. To help realise your dreams, Standard Chartered Group is proud to launch a new chapter in our bank’s history – Standard Chartered Saadiq Berhad, our new Islamic Bank, on 12 November 2008.
Islamic banking is a rapidly growing phenomenon in the global financial markets as it answers the call of discerning Muslims who seek a banking system that conforms to their religious tenets. Because of this, a number of banks worldwide offer products and services that are Syariah (Islamic Law) compliant. At Standard Chartered Saadiq Berhad ("Saadiq" which means "truthful"), a team of qualified professionals design and structure our Standard Chartered Saadiq products and services to ensure that they are in line with Syariah principles governing Islamic banking and finance. In addition, to ensure conformity of all products with the tenets of Syariah the Bank has an independent Syariah Supervisory Committee comprising a team of professional managers who are guided by respected Syariah scholars both locally and abroad.
Standard Chartered was the first international bank in Malaysia to offer Islamic banking products in 1992. With a footprint in over 70 countries, we are committed to bringing you world-class Islamic solutions for all your financial needs.
Do visit our first state-of-the-art Standard Chartered Saadiq Financial Centre, equipped with revolutionary iTable and eKiosk facilities that provide easy access to your wealth, and an eco friendly interior design that promises a relaxing banking experience. Our financial centre is located at Taman Tun Dr. Ismail.
50, 52, 54 Jalan Burhanuddin Helmi,Taman Tun Dr. Ismail 60000 Kuala Lumpur.
Standard Chartered Saadiq Berhad offers a wide range of tailor-made Syariah compliant products, available to all our individual customers regardless of their religion and race:
Scribed
3I. INTRODUCTIONIslamic banking is steadily moving into an increasing number of conventional financialsystems. It is expanding not only in nations with majority Muslim populations, but also inother countries where Muslims are a minority, such as the United Kingdom or Japan.Similarly, countries like India, the Kyrgyz Republic, and Syria have recently granted, or areconsidering granting, licenses for Islamic banking activities. In fact, there are currently morethan 300 Islamic financial institutions spread over 51 countries, plus well over 250 mutualfunds that comply with Islamic principles. Over the last decade, this industry has experiencedgrowth rates of 10-15 percent per annum—a trend that is expected to continue.Despite this rapid expansion, in most conventional banking systems, Islamic finance is stilluncharted territory for most practitioners and policy-makers. Since current trends indicatethat Islamic banking will continue to increase its penetration of conventional systems, policy-makers and practitioners need to become acquainted with this process and its implications forfinancial supervision. This paper seeks to fill this void in the literature.The paper, however, is not an introduction to Islamic banking (for this I would refer the
reader to the excellent and recently published book by Iqbal and Mirakhor, 2007, or Ayub2002). Instead, the paper focuses on the process by which Islamic retail banking is implantedin traditional financial systems. Drawing from the experience of several countries which haveintroduced Islamic banking over a period of time, the paper delineates the main phases of theprocess, with the intention of underscoring the main challenges faced by supervisors andpractitioners at each stage. It also discusses some of the main elements required to build asupporting financial infrastructure that conforms to Islamic principles.The sequence of steps to introduce Islamic banks that is discussed below should not be seenas a rigid template from which countries may not deviate. Such a rigid scheme would hardlybe realistic, as countries’ specific circumstances will vary substantially in practice. Instead,the goal is simply to discuss a series of stepping stones in the road to introducing Islamicbanks, while simultaneously flagging some of the main issues that, sooner or later, are likelyto arise as this industry develops. In this sense, the stages below should not be viewed asstrictly sequential, but rather as overlapping layers of the same process.The paper is structured as follows: Section II discusses some preliminaries with which theauthorities should be familiar before introducing Islamic banks; Section III explains thedifferent phases in the development of Islamic banking; Section IV discusses the role that thesupervisory authority should play in this process; Section V explains the different elementsthat are needed to build a supporting Islamic financial infrastructure;
finally, Section VIconcludes.II. PRELIMINARIESBEFOREINTRODUCINGISLAMICBANKSOwing to the growing demand by the Muslim population in Western countries and also to theincreasing interest of Islamic investors (mostly from the Gulf region) to diversifygeographically their portfolios, conventional banks are increasingly becoming interested in
4entering the market of Islamic financial products. Unfortunately, it is often the case that theseinstitutions, as well as the supervisory agencies overseeing them, are not entirely familiarwith the gamut of principles governing Islamic banking.Besides the well-known Quran admonishment againstri ba (interest),gharar andmaisir(contractual uncertainty and gambling), andharam industries (prohibited industries such asthose related to pork products, pornography, or alcoholic beverages), there are otherprinciples that must be observed by practitioners and supervisors in order to comply withIslamic jurisprudence.Practitioners need to understand these principles in order to be able to provide the servicesand products demanded by consumers that want to comply with Islamic principles. At thesame time, supervisors need to know the challenges that these new financial products andinstitutions will impose on the regulated entities, as well as the potential implications of theinteraction between Islamic and conventional banks.This section reviews four areas of paramount importance that practitioners and supervisorsneed to appreciate in order for Islamic banking to be successfully
introduced into aconventional system: (i) compliance with the Shariah, (ii) segregation of Islamic andconventional funds, (iii) accounting standards, and (iv) awareness campaigns.1Shariah ComplianceIslamic finance in based on the principles established by the Shariah as well as otherjurisprudence or rulings, known asfatwa, issued by qualified Muslim scholars. Admittedly,some of the issues covered by these rulings can be quite complex, forcing the institutionsinvolved to often seek the assistance of experts in interpreting them.As a result, it has become a common practice for Islamic banks to appoint their own board ofShariah scholars. Nevertheless, since expertise in these matters is still relatively scarce insome countries, different Islamic banks often share the same scholars. This phenomenon hasthe beneficial side-effect that it promotes consistency across the services and productsoffered by these institutions.Therefore, the first measure that an institution wishing to offer Islamic products mustundertake, is to appoint a Shariah board or, at a very minimum, a Shariah counselor. Thisinitial step is essential for the future operations of the institution, as it will help minimizeShariah risk, which is the risk that the terms agreed in a contract do not effectively complywith Islamic jurisprudence and thus are not valid under Islamic law. In consequence, thecontract could be declared (partially) void in a Shariah court.1 Some of the following material draws from Yaquby, 2005.
5The importance of seeking Shariah expertise can be emphasized by means of an example,drawn from Wilson (1999). Kleinwort Benson was a pioneering investment bank which setup an Islamic investment fund in London in 1986. The fund aimed at drawing funds from theGulf region. Initially, the fund experienced difficulties in attracting investors, as it lacked aShariah board, and thus it was viewed with reticence by Gulf investors. After some time, aShariah board was appointed and the fund took off successfully.Financial regulators should also appoint their own Shariah experts, which would provideadvice on the instruments and services offered by the institutions in their jurisdiction.Consultation with these experts would be crucial to ascertain whether the regulations issuedby the supervisor with regard to Islamic institutions, as well as the licensing of differentactivities, are compatible with Islamic principles.An additional important aspect for the regulator is that its rulings and decisions are consistentwith those of the Shariah boards of foreign supervisory agencies. An important effort towardsachieving international consistency was the creation of two multilateral institutions: (i) theAccounting and Auditing Organization for Islamic Financial Institutions (AAOIFI), whichissues internationally recognized Shariah standards on accounting, auditing, and governanceissues; and (ii) the Islamic Financial Services Board (IFSB), which issues standards for theeffective supervision and regulation of Islamic financial institutions. The
roles of the twoinstitutions are discussed in more detail below.
Page 18 Islamic Banking & Finance Volume Six Issue Two Number 17http://www.daralistithmar.com/files/car.pdf
W
ALK INTO SOME
Islamic banks and you
will see that they provide indicative rates of
return based on historical performance, which, ironically, corelate with conventional banking deposit
interest rates.
Is there a problem with this? Yes and no.
Yes, the problem with this is that Islamic
banks engage in a profit-sharing relationship with their investment account holders (the term given for the comparable of
returns for the Islamic bank that are comparable to benchmark interest rates. However, studies have found that some (not
all) Islamic banks do smooth distributions to IAHs.
The reasons for this are quite clear in
the minds of some Islamic bankers. As an
Islamic banker, I would tell you that if we
do not provide rates similar to deposits,
then our IAHs will move their funds to
a bank (Islamic or otherwise) that does—
in Islamic accounting circles called displaced commercial risk (DCR). This is a
legitimate concern and it relates to the
mentality of IAHs who may desire a stable low-risk return.
This “distributions smoothing”, while
not generalised to all Islamic banks, could
potentially cause the Islamic bank’s earnings to be volatile. Why? If pre-distribution revenues are poor in a particular year,
Islamic bank shareholders have to sacrifice their profits for that year to subsidise
IAHs’ appetite for returns.
This is further exacerbated by Islamic
banks carrying a sizeable proportion of
fixed rate investments on their assets side
without the associated benefit of being
able to hedge fixed rate exposures until
only recently. That means that when
market-wide interest rates are increased,
Islamic banks will be left with an underperforming portfolio of fixed rate instruments, while still having to increase their
profit distribution rates for the benefit of
their “sensitive” IAHs.
To mitigate and/or reduce the displaced commercial risk, some banks have
resorted to the practice of smoothing
distributions to IAHs, utilising unique
smoothing reserves.
The practice of utilising reserves effectively shields the bank’s own capital from
the effects of DCR. But what if these
reserves are not enough? The practice of
reserves is a new phenomenon, and banks,
generally, do not have a significant build-
up of reserves to protect against significant systemic shocks; for instance, a hike
in benchmark interest rates.
What this implies is Islamic banks
that do practise distributions smoothing
may just be subject to higher earnings volatility in the instances where they do not
have a significant build-up of reserves or
where they don’t have reserves at all.
Given the assumptions of finance theory, increased earnings volatility compared with conventional institutions
might just imply that the shares of an
Islamic bank are riskier than a conventional bank, assuming that a conventional bank has mechanisms to mitigate
fixed rate exposures. This would make
the Islamic bank a riskier asset to hold
in the long term and, thereby, make the
Islamic financial industry a riskier industry, particular without the benefit of hedging instruments and during times of economic contraction.
This theory —and it is just that— is
quite contrary to the claims of Islamic
economists. Islamic economists believe
that Islamic banks are more resistant to
economic shocks because they share profits and losses with IAHs.
Granted, if an Islamic bank truly provides “real economic” distributions to
their IAHs, there is a good chance that
the Islamic banks will be more resistant
to economic shocks, since they are able to
share the burden of the shock with IAHs.
Indeed, this is one of the most compelling
cases going for Islamic banks.
Yet, in reality, some Islamic banks may
be more exposed to economic shocks and
adjustments in market interest rates than
conventional banks, because they practise smoothing, without having sufficient
reserves or having no reserves at all.
The question, therefore, becomes: how
can we really make the Islamic fi nance
industry resistant to economic shocks
ANALYSIS
Capital adequacy ratios
If supervisory authorities and central banks provide regulatory incentives
to Islamic banks, they could provide true economic returns to investment
account holders, argues Syed Farook. One such valuable incentive
mechanism available is the capital adequacy ratio
SYED FAROOK Stable fi nancial system
IBF18 Final/mast IBF18 Final/master/david.indd 18 er/david.indd 18 23/7/08 23/7/08 17:04:40 17:04:40Islamic Banking & Finance Volume Six Issue Two Number 17 Page 19
while still keeping our IAHs and shareholders content? The practice of reserves
propagated by AAOIFI and the IFSB is one
good solution. The substantial IFSB guidelines on risk management are even better,
but these would not necessarily reduce
the volatility associated with an economic shock being passed on solely to the
shareholders.
The other solution is to incentivise
Islamic banks to move towards providing
IAHs with real economic returns based
on underlying performance. Would IAHs
agree to this? In some jurisdictions and
for many banks they already do. In these
jurisdictions, the value proposition of
encouraging more Islamic banks to open
shop is tremendous, since they will go a
long way to avoid systemic risks to the
financial system, particularly if they are
doing a good job in managing their risks
according to the IFSB guidelines.
But in others the common assumption would be that IAHs would not agree
to receiving volatile distributions, since
IAHs mistakenly believe that Islamic
banks should provide distributions just
like conventional banks.
Professor Karim and Professor Archer
suggest that this might be because of
the inherent nature of bank depositors
(whether Islamic or conventional), whose
relatively low net worth means that they
are naturally risk averse and prefer to earn
stable low yield returns (compared with
high net worth individuals who invest in
shares, funds and all sorts of diversified
risky investments).
But perhaps it may also have to do with
market education of Islamic finance as an
alternative financial system. Many people
who are working within the industry still
do not “believe” in the Islamic finance
system and the benefit it offers.
In addition, customers and IAHs are
still unclear about the benefits of this
system at both the macro and micro
economic level. Some customers would
prefer stable returns rather than volatile
returns based on performance, which may
yield good returns for some customers and
bad returns for others, depending on when
they invest with the Islamic bank.
Industry building infrastructure institutions such as AAOIFI and the IFSB are
doing a lot to educate the market, particularly Islamic banks and practitioners,
about the best practices in terms of relations with IAHs, profit distributions and
disclosure.
The industry has come a long way in
this regard and as a result of its painstaking contributions. But the reality is that
the intended ripple effects to the rest of
society, particularly IAHs, are taking
much longer to fl ow through.
Consequently, even with Islamic bank
penetration rates rising and the dizzying
growth rates, IAHs are hazy about the
nature of their relationship with Islamic
banks. Islamic banks (with the exception
of a few), on the other hand, are doing little to increase the levels of disclosure to
IAHs, considering the fundamentally different relationship between the bank as a
manager (agent) and IAHs as an investor
(principal).
This may be because it is diffi cult to
Even with the dizzying growth rates, investment account holders are hazy about the nature of their relationship with Islamic banks
IBF18 Final/mast IBF18 Final/master/david.indd 19 er/david.indd 19 23/7/08 23/7/08 17:04:40 17:04:40Page 20 Islamic Banking & Finance Volume Six Issue Two Number 17
change the mindset of the bank-depositor relationship, which has been grounded
in stone over the centuries. Add to that
the majority of the individuals who are
employed in Islamic banks are largely
scouted from conventional banks. Perhaps in time and with further education
trickling through to the banking community this may be eventually be achieved.
However, assuming that some Islamic
banks have no incentives to move in this
direction themselves and provide true economic returns to IAHs, perhaps the only
way to ensure this happens as quick as
the pace of growth of the Islamic finance
industry is if supervisory authorities and
central banks provide regulatory incentives to Islamic banks.
One such valuable incentive mechanism available to central banks is the
capital adequacy ratio (CAR). CAR sets
the required level of shareholders’ capital
(usually 8% in most jurisdictions) against
the total risk-weighted assets of an Islamic
bank. Hence a CAR for a conventional
bank would usually look like this:
REGULATORY CAPITAL
TOTAL RISK WEIGHTED ASSETS
However, the interesting aspect of this
CAR formulation is the modification
made by the IFSB to reflect differences in
the underlying operations of an Islamic
bank. The IFSB stipulates that Islamic
banks need to maintain only a partial
percentage of their risk-weighted assets
funded by IAHs, at the discretion of the
central bank or supervisory authority, the
rationale behind this being that the depositors are supposed to be profit sharing and
loss bearing.
Consequently, the Islamic bank should
not have to maintain additional capital for funds invested on behalf of IAHs,
considering that IAHs have to bear that
risk themselves. The IFSB has left the percentage of risk-weighted assets funded
by depositors (otherwise known as the
a factor) up to the individual regulators
to decide in their own jurisdictions. For
example, the Bahrain Central Bank has
ruled it to be 30% for the kingdom. This
indirectly places Islamic banks at a competitive advantage, since they include
only 30% of IAHs (which usually comprise a significant proportion of Islamic
bank assets, around the 30-70% range).
Presumably, the rationale for this
supervisory discretion formula is to allow
central banks and supervisors to decide
on the profit sharing/loss bearing risk
(displaced commercial risk or DCR) that
Islamic banks are exposed to under their
jurisdiction, in the event that the central
bank has to rescue an Islamic bank.
However, what if an individual Islamic
bank is more resistant to shocks in the
local economy because it already undertakes pure performance-based profit/loss
sharing with IAHs (that is, displaced commercial risk for its set of IAHs is lower)?
This supervisory discretion formula, if
applied on a jurisdictional basis, assumes
that all Islamic banks in that particular jurisdiction fit into the “one-size fits
all” category. In a country like Bahrain,
with 30% of IAHs risk-weighted assets
included in the CAR denominator, this
implies that IAHs will bear up to 70%
of their losses, while the other 30% will
be borne by the shareholders or the central bank. That individual bank, which
has little or no displaced commercial risk,
still has to bear the burden of IAHs.
Most central banks have applied this
regulation in such a manner. There is
nothing particularly wrong with this, in
the absence of a better indicator of individual DCR exposure.
One way for regulators and supervisors to resolve this “one-size fits all”
issue and indirectly incentivise Islamic
banks to engage in providing true economic returns to IAHs is imposing a variable a factor on banks. The IFSB already
provides this flexibility to each regulator
to do this.
However, to provide for a variable a
factor, the supervisory authorities would
require accounting technology that would
calculate the individual bank level exposure to DCR. This is quite achievable.
Banks already provide quarterly returns to
their supervisory authorities. The central
bank or supervisory authority can design
a formula to calculate DCR exposure by
which banks will report their individual
exposure to DCR. Based on this exposure,
the central bank can impose a variable a
factor that will determine the capital a
bank must hold against its risk-weighted
assets funded by IAHs. In addition, banks
can be given further a factor relief based
on the extent of disclosures provided,
with more disclosures allowing more
haircuts on the extent of risk weighted
assets funded by IAHs to be included in
the denominator of the CAR.
If the measure is variable and banks
have the opportunity to reduce the IAHsbased DCR capital charge, they will do
whatever is in their capacity to reduce it.
For one, this may include ensuring a more
efficient asset allocation strategy, reducing dependence on fixed rate instruments
such as murabaha and increasing variable (ijarah-based) and long term assets
(sukuk).
It could also encourage Islamic banks
to start moving towards greater disclosures directed towards IAHs, educating them about the nature of their relationship with the bank and the rationale
behind the profit share distributed to
IAHs, even if it happens to be lower than
market-based deposit rates.
Besides increasing incentives to further engage with IAHs through disclosure,
the potential benefits of this incentive
approach to the a factor in the CAR calculation will have positive ripple effects on
the broader Islamic financial system.
The financial system will be more
resistant to economic shocks and systemic risk as the bank will actually share
the effects of the shock with the depositors, while the depositors get to bear the
fruit from expansionary cycles.
The banks will be more open to variable returns on their assets side, allowing the institutional appetite for variable
returns-based sukuk such as musharaka
or mudaraba to increase.
Supervisory authorities and Islamic
bankers (who will have to follow suit)
have a golden opportunity to achieve the
goals of Islamic economics: to create a stable Islamic financial system resistant to
