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Monday, December 1, 2008


As government grapples with the global liquidity crunch, Islamic banking could offer a way to bring fresh funds into financial mainstream. But while the rest of the world is opening up this avenue, India still has barriers.
Raghuram Rajan committee on Banking Sector Reforms in its reports recommended introducing Islamic Banking in India.
Islamic banking is also known as Interest-free banking. Interest free banking offers new possibilities to bring in the excluded citizens into the formal financial system.

a) Interest free banking is that the investor/lender does not get interest, but gets compensated through a form of profit sharing.
b) This involves equity based financing, and risk sharing basis.
c) When a conventional bank gives loan it takes zero risk as the loan is to be repaid with interest irrespective of whether the business succeeds or fails.
d) In Islamic banking if the borrower makes a loss, then the loan liability is mitigated as the bank will share the loss. And if borrower makes a profit he’ll have to share it with the lender at a pre-determined ratio.
e) Britain with a population of approx. 2 million Muslims has already had 6 Islamic banks 3 of which started in 2008. U.K Financial services authority (the UK’s equivalent to SEBI) sees Islamic banking not as a threat but as an opportunity for economic growth.
f) India have world’s second largest Muslims population of 154 million has lack of Islamic banking.
g) There is at least Rs. 5000 Crore of unclaimed interest in Kerela alone
h) According to estimates, globally assets worth of $300 billion are under management of Islamic banking and this is set to cross $1 trillion by the year 2013.
i) The problem in India on Islamic banking is politics. Any step towards this would be interpreted as “Favoring Muslims”
j) Besides politics there are also regulatory barriers, a bank in India cannot raise deposits without promising a specified rate of return to its depositors, but under Shariah, returns can only be determined on profit.
k) In India banks have to maintain a Statutory Liquidity Ratio (SLR) which involves locking up a portion of funds either in cash, gold or in government securities. Cash does not give any return, government securities are interest bearing which is prohibited under Shariah
l) The other problem involve restriction on equity investment by bank in India (the prime investment avenue in Islamic system) & trading (Islamic mortgages the main source of Islamic bank)

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