In an exercise of self congratulations last week, representatives from the SBP highlighted how Islamic banking has boomed in Pakistan in the last fifteen odd years. Assets of Islamic banking industry in Pakistan now stand at Rs1.6 trillion, which is about 12 percent of the total banking assets in the country. This is a quite an improvement over a share of about 3 percent in 2006 and half a percent at the end of 2003. But is this sufficient growth?
By 2013, assets of Pakistans Islamic banking industry stood at $6.2 billion, according to the World Banks first global report on Islamic finance titled A Catalyst for Shared Prosperity? By comparison Indonesias was $13 billion, Bangladesh $17 billion, and Malaysia $156 billion.
These peer economies from South and Southeast Asia, however, introduced Islamic banking at least a decade before Pakistan did. The first Islamic bank in Pakistan opened in 2001, whereas in Indonesia it opened in 1991, and in Malaysia and Bangladesh the first Islamic bank opened in 1983. In 2012 the last available comparable figures the share of Islamic banking assets in Pakistan was about 9 percent, whereas that in Indonesia was four percent and Malaysia 25 percent. '
Ergo: while things can always be better, Islamic banking in Pakistan seems to be on track by and large with similar levels of brick-and-mortar penetration. However, there is no time for complacency.
Of the many things that Islamic banks need to focus on is the SMEs. According to SBP data, client-wise portfolio of Islamic banking industry is increasingly titled towards the corporate sector. In 2008, SMEs had a nearly 10 percent share in Islamic banking lending; by September 2016 it was only 3 percent, half of that seen in the total banking industry.
If Islamic banking is to grow, then this needs to change. According to a Feb-2017 study by the IFC, SME lending potential of Islamic banking industry in Pakistan is between $2.6 and $3.8 billion, which is about a third of total Islamic assets in the country.
The IFC study titled Islamic Banking Opportunities Across Small and Medium Enterprises reveals a new to bank Islamic funding and depository opportunity, primarily due to un-served and underserved SMEs, who do not borrow from conventional banks due to religious reasons.
The un-served represent 67 percent of the SME population, whereas the underserved represent about 25 percent of the SME population. This potential is untapped as banks and other financial institutions lack adequate strategic focus on this segment to offer Shariah-compliant products.
The IFC reports that approximately 20 to 25 percent of SMEs do not opt at all for formal financing or borrow less than 20 percent of their requirements due to their religious beliefs. This sentiment has been growing stronger, especially over the past five to six years.
Yet, most banks within Pakistans Islamic banking industry do not even have separate business units/divisions for SMEs with Islamic propositions to SMEs being provided through corporate or retail divisions.
One of the many objectives of rolling out Islamic banking in this country was financial inclusion especially from the SME perspective; to that end, Islamic banking in Pakistan is not meeting its objectives. Understandably, SME lending is rife with problems which manifested quite too well in the aftermath of 2007-2008 financial crises and left many fingers burnt.
However, the fundamental principles of Islamic banking include prudent governance, accountable leadership, risk sharing, and social inclusion. If these principles are really at the heart of Pakistans Islamic bankers, and if they have the capability to translate the principles into action, then what is preventing them to find a way to work around the SME-specific problems and boost lending to this all important sector.
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