Islamic Finance in Sri Lanka: To be or not to be?

By Dilan Jesudason

The year 2005 was a turning point in the financial services industry in Sri Lanka when its legislation regulating banks and non-bank financial institutions, namely, the Banking Act No. 30 of 1988 was amended to permit an alternative form of finance. Islamic Finance (IF) in the country was formalised through this crucial piece of legislation, albeit its beginnings can be traced back to 1997 when Amana Investments Ltd. established itself to fill the void arising from a lack of Shariah-compliant financing for those who wished to avail themselves of it. 

Proponents argue that IF is an effective tool for financing development as it tends to have a longer-term focus, possessing characteristics such as being an equity-based, asset-backed, ethical, sustainable, environmentally and socially responsible type of financing. In spite of its benefits, the IF industry in the country finds itself lagging well behind its conventional banking counterpart with the total IF banking assets currently estimated at less than 1% of the total assets in the country’s banking sector, according to the Islamic Financial Services Board.

There is no doubt that market players in the IF space would have expected greater visibility for the industry more than a decade after formal recognition by the banking regulator was achieved. This does not mean that there is a lack of effort on their part – it is more to do with a lack of acceptance from the wider population. This is evidenced by the fact that there is just one fully-fledged Islamic bank in the country, while the rest of the providers operate as ‘Islamic windows’ of conventional financial institutions as this is a more feasible option when demand is at the lower end. The majority of demand thus far has naturally come from the Muslim population in the country, but in order for IF to truly push the boundaries, it needs to also attract the non-Muslims to reach critical mass.

The industry would benefit from shifting the focus away from the ‘religion’ aspect of this form of finance. The advertising and promotion of IF tends to have Islamic connotations and therefore gives the impression of being exclusively for Muslims. It is therefore important that institutions engaged in IF come together to dispel such notions when marketing products. After all, the regulators goal for financial inclusion will supersede whether the conventional or Islamic form is used to achieve this.

A key matter for consideration is whether IF and conventional financial institutions are operating on a level-playing field. Some argue that there should be a dual regulatory framework in place since each has distinctive features which require separate supervision and oversight. In this manner, the differences between the risk profile of Islamic financial institutions and conventional ones can be taken into consideration as opposed to applying the same rules which may leave one form disadvantaged over the other. 

In the present context, it is the IF sector which finds itself in this position. This argument may not hold much weight however, unless the IF industry can demonstrate that there is sufficient demand for its products and services. Currently, there is no public data source available providing a snapshot of the industry in terms of assets and liabilities for example, although such information is readily available for the traditional banking sector. A greater amount of transparency and disclosure would be helpful if the industry is to catch the eye of the wider consumer base which in turn will prompt regulators to take note as well. Presently, any available data is based on assumptions from the various market players, therefore being far from ideal.

The eventual success of the industry in the country will be largely dependent on the people attached to it. No matter what the challenges are, it boils down to the ability and willingness of the market players to take it forward. The lack of suitably talented staff will stunt the long-term viability and acceptance of this changing industry. Presently, the pioneers of IF in Sri Lanka are the backbone of this sector, so one can wonder who will form the ‘next generation’ and build on what has already been accomplished so far. The industry needs to be attractive enough to entice graduates to pursue a career in this field. 

However, this will only happen if they see value in the industry. It is up to the industry to take the lead to develop IF and not to expect any special treatment if it wants to progress in Sri Lanka.

(The writer is a Professional Banker who is working in a foreign bank in Sri Lanka. He is a Charter Member of CFA and Associate Member of CIMA-UK and a member of the Association of Professional Bankers of Sir Lanka. This article was first published in Islamic Finance News Volume 14 Issue 36 dated 6 September 2017.)