Pakistan's regulator has introduced new takaful (Islamic insurance) rules designed to boost competition and lift the sector's market share by allowing the entry of conventional players, prompting a legal challenge from takaful providers. The rules, launched last month, make Pakistan the second country after Indonesia to officially allow takaful windows, which enable firms to offer sharia-compliant and conventional products side by side, provided client money is segregated.
Takaful has operated without conventional competitors in Pakistan since the first rules were introduced in 2005, but those rules said windows could be allowed after a five-year period. Conventional insurance firms could serve a broader share of the takaful market "with their larger sales force and vast branch network", the securities commission said in a statement last month.
Takaful is seen as a bellwether of consumer appetite for Islamic finance products. It is based on the concept of mutuality; the takaful company oversees a pool of funds contributed by all policy holders, but does not necessarily bear risk itself. In their investments, takaful firms must follow religious guidelines, including bans on interest and pure monetary speculation. Global takaful contributions are forecast to reach $12 billion this year, according to consultants Ernst & Young. Although Pakistan is the world's second most populous Muslim nation, takaful's share of the total insurance market there is only 2 to 3 percent, said Omar Mustafa Ansari, Karachi-based partner at Ernst & Young Ford Rhodes Sidat Hyder. In contrast, the average takaful share in Muslim countries stood at 5 percent in 2010 and is expected to reach 7 percent by 2015, according to a report last September by Swiss Re.
The overall share of takaful in Pakistan could reach 25 to 30 percent for general coverage and 15 to 20 percent in family/life coverage within five to seven years, Ansari said, with much of that growth being captured by windows. "Takaful companies did not have the capacity to serve the Islamic banks, let alone the overall corporate and personal needs for insurance," Ansari said, noting that no new takaful firms had entered the market in the last four years.
"While I am considered to be a purist (or at times critic of the weaknesses in the present system), I feel that for the purpose of growth of the industry, it is necessary to allow windows." Ansari added that his comments were his personal views and not made on behalf of any company or institution.
Conventional players appear keen to enter the market to increase their business volumes. "At least four to five companies have prepared working papers," Ansari said. Incumbents face "fierce competition on pricing and service quality. They will have to increase their capital bases and might need to look for mergers and acquisitions," he added.
New entrants into the takaful market could also increase overall insurance coverage in the country by reaching out to untapped market segments. Pakistan's insurance penetration, measured as total premiums to gross domestic product, was the third-lowest in Asia last year at 0.7 percent, against 4.1 percent for India, another report by Swiss Re showed.
Opportunity lies in Pakistan's rural belts where there are high growth prospects, said Muhammad Ashfaq Ur Rehman, a Dubai-based management consultant. "It depends how conventional insurers having windows devise their marketing strategy." But Pakistan's five takaful operators last week filed a petition in a court in Sindh province, the country's second-largest Islamic banking market, to challenge the new rules.
"Criticism is against the window concept (seen as diluting the sharia)," wrote Tarik Rashid, Karachi-based insurance consultant and associate fellow of the Institute of Islamic Banking & Insurance, a British-based body which offers education in Islamic finance.
However, the new rules include requirements for external auditors and internal compliance officers, and the regulator said further requirements might be included. If authorities decide to introduce a minimum capital requirement for takaful windows, that could create a level playing field for pure takaful and conventional insurance companies, Ansari said.
The takaful industry's lobby may not be powerful enough to persuade the authorities to cancel the reforms entirely. "I do not think there is a real forceful takaful representation" that could make the regulator reverse its decision, Rehman said.
Any reversal might be hard to justify because Pakistan's conventional banks operate Islamic windows under the same methodology, a source at one of the takaful firms said. The petition may delay the opening of takaful windows or prompt the regulator to make some amendments to the rules, but the decision to open windows is "guaranteed" to go ahead, the source acknowledged.
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