UAE Laws and Islamic Finance

Laws of the UAE and Islamic Finance

Archive for October 14, 2020

The Impact of Covid 19 on the Islamic Finance Industry

The Impact of Covid 19 on the Islamic Finance Sector

By: Camille Paldi

*Versions of this article were first published by the Journal of Islamic Banking and Finance (JIBF) and the Indian Centre of Islamic Finance.

Covid 19 has rocked the world economy and shaken up employment around the world. According to the IMF, the global economy is expected to shrink by over 3 percent in 2020, the steepest slowdown since the Great Depression of the 1930’s. The President of the Islamic Development Bank, Bandar Al Hajjar, says that more than 25 million jobs could be lost worldwide due to the Covid- 19 pandemic.  According to S&P, Covid- 19 is causing a significant slowdown in core Islamic finance markets and a spike in unemployment.  Especially hard hit are SME’s and low to middle income earners.  In terms of Islamic finance, the focus of product evolution can now shift to addressing the Covid – 19 pandemic.

In terms of the Islamic finance industry, which, according to Oxford Business Group, had 11.4% growth in 2019, Standard and Poor’s predicted that it will have a declining low – to mid-single digit growth in 2020-2021 due to the pandemic. Furthermore, according to the Oxford Business Group, 2019 saw $162 billion in sukuk issuance as compared to a mere $100 billion in 2020. In the first five months of 2020, S&P says that the total volume of sukuk issuance dropped 38% compared with the same period in 2019.  Although, negatively affected in terms of growth rates and numbers, the Covid-19 pandemic has pushed Islamic finance into new realms and provided room for diversification in product development, especially in the area of sukuk. In fact, Aamir Rehman says that SDG or Sustainable Development Goals-aligned sukuk can be an important source of long-term capital for governments and companies engaged in the COVID response and recovery.

For example, according to the Oxford Business Group, the Islamic Development Bank recently raised $1.5 billion with its’ Sustainability Sukuk, the purpose of which is to assist member countries in Covid-19 recovery. Furthermore, the ISDB prepared a $2 billion package, dedicating a significant portion of it to support and empower MSMEs or the micro, small, and medium size enterprises sector in member countries. The Islamic Development Bank has begun to pursue sustainable and social sukuk and programs to counter the consequences of the Covid-19 pandemic. In addition, the International Islamic Trade Finance Corporation (ITFC) has pledged an initial $300 million response package to support strategic health, food, and energy trade flows and further grant elements to build the capacity of medical personnel and laboratories in OIC countries.

Furthermore, according to the Oxford Business Group, in June, 2020, Indonesia issued a $2.5 billion wakalah global sukuk dedicated to sustainable development and to support the Indonesian government’s coronavirus program. 

The Covid-19 pandemic is encouraging the Islamic finance industry to explore other financial tools such as qard hassan, social sukuk, zakat, trade finance, and waqf to aid in Covid- 19 relief.

According to S&P, qard hassan could provide cost-free breathing space until the environment stabilizes.  S&P refers to one example of when some GCC central banks opened free liquidity lines for financial institutions to provide subsidized lending to their corporate and small and midsize enterprise clients. 

In terms of social sukuk, S&P says that these instruments could help support the education and health care systems and attract ESG investors.

According to Aamir Rehman, zakat can also be an important component of national and NGO emergency support programs during the pandemic.  Rehman says that donors typically require that zakat be disbursed within one year of being given.  Rehman says that this focus on immediate benefit is well suited for crisis response such as the Covid- 19 crisis.  Rehman explains that zakat donors support both the poor and the economically insecure, an area of increased need in the pandemic. Rehman says that zakat donors often give cash transfers, which can be especially important in emergencies such as the Covid-19 crisis. S&P believes that zakat could help compensate for lost household income due to Covid 19.

Rehman also says that the financing of equipment, vehicles, and other sources of livelihood and trade finance are key mechanisms by which Islamic banks and financial institutions can support recovery.

Rehman adds that waqf endowments can be important contributors to long-term resilience. Rehman explains that waqf occurs where financial or non-financial assets such as land or buildings are permanently dedicated to social purposes such as the Covid- 19 recovery effort. S&P asserts that waqf could help provide affordable housing solutions or access to health care and education for people that might have lost a portion of their income.

Sergio Rebelo says that the pandemic crisis has accelerated the pace of digital transformation, with further expansion in e-commerce and increases in the pace of adoption of telemedicine, videoconferencing, online teaching, and fintech.  In fact, S&P says that higher digitalization and fintech collaboration could help strengthen their resilience in a more volatile environment and open new avenues for growth.  According to Stuart Brown, there has been a considerable increase in digital banking transactions and activity, which in turn provides an added impetus driving the digital transformation push across Islamic banks. Browns says these may include increased automation of processes to minimize the need for human contact as well as digital structures for liquidity management. Brown says that due to the Covid 19 pandemic, fintech will continue to play a significant role in the industry’s development by improving access to financial services and transforming Islamic social finance.

In fact, the pandemic should push the Islamic Finance Industry into digitalization including establishing an online dispute resolution mechanism for the Islamic finance industry. There is no reason why an online dispute resolution system for the Islamic finance industry should not be introduced at this stage in its’ evolution. In fact, the pandemic is increasing the usage of online dispute resolution systems in many countries around the world. Such a system can streamline dispute resolution with the use of standardized contracts with built in dispute resolution mechanisms modeled on FIDIC contracts and with the use of an arbitration center as a means of last resort. Let’s use the misfortune of the Covid 19 pandemic to achieve positive results for the Islamic finance industry, which is also bracing for the pandemic storm.

UAE Laws and Islamic Finance

Laws of the UAE and Islamic Finance