March 9, 2010

Kuala Lumpur a world financial centre through growth in Islamic banking

Banks run on Koranic principles are very popular, writes Eric Ellis in Kuala Lumpur

FORGET the City, Wall Street, Frankfurt and Tokyo, here's a revelation that will rock you, and probably Gail Kelly at Westpac too.

One of the world's biggest financial centres is Kuala Lumpur.

No, you didn't read incorrectly - tropical KL, capital of the infamously ''recalcitrant'' Malaysia, a country better known in recent times for caning its beer-drinking adulterous womenfolk than as a titan of global high finance.

But a world leader it is. And here's the qualification - KL leads the world in Islamic finance, the fast-growing industry Australia's decidedly Christian Westpac recently decided it wants to get set-up in.

Just 27 years after Malaysia launched its first bank - unsurprisingly dubbed Bank Islam - to operate under Islamic principles, and only 17 years after the sector's own Big Bang, which meant lifting Bank Islam's monopoly - about 20 per cent of the country's banking transactions are conducted according to Koranic principles.

At one level that makes sense. Islam is Malaysia's official religion and about 60 per cent of the country's 29 million people are Malay, which under the Malaysian constitution means they are Muslims.

But the curious thing about Islamic banking in Malaysia is that among its most enthusiastic adherents is Malaysia's predominantly Buddhist Chinese community, which dominates business here.

''You tend to get a better return,'' admits Mohamed Rithuan Shamsudin, executive director of Malaysia's Association of Islamic Banking Institutions. ''And the service is a little more personal. You don't have to be a Muslim to bank Islamically.''

In Islamic banking, returns are reliant on the financial health of the deposit-taking institution and its investments. Common interest is ''earning money from money'', usury or riba as its known in Arabic and is haram, forbidden in Islam. Profit should be something created when money is transformed into capital via personal effort. Conversely, it applies that if a bank makes losses, depositors will bear that burden too. Except most of the world's Islamic economies are doing very well compared with the mostly Christian West that has traditionally dominated global finance.

Malaysia's central bank, Bank Negara, has a separate division to ensure transactions made under Koranic principles remain pure at all stages of the transaction. That means an entire infrastructure ensuring returns and profits aren't re-invested in industries or companies also regarded as haram, notably arms makers, tobacco companies or brewers and distillers. Gambling too is out.

After being monopolised for a decade by Bank Islam, which was spun out of an institution set up by Malaysia's Haj-goers to ease the cost of the annual pilgrimage to Mecca, Malaysia now has more than 40 financial institutions touting Islamic banking and more conventional offerings.

Malaysia is among the three leading Islamic banking centres - the others are Iran and Saudi Arabia - and the relative liberalism of its economy and openness to the world, unlike Iran and Saudi, makes it well poised to dominate Islamic banking, which has grown globally at about 10 per cent a year over the past decade. That decade has also coincided with the period since the 9/11 attacks on the US, when immigration and financial controls were instituted in the West, encouraging Muslims to keep money at home.

Curiously, Islamic banking has so far failed to take off in the world's biggest Islamic country, Indonesia, where sharia-compliant transactions comprise less than 1 per cent of all banking there. But that has less to do with Islam and the products offered than it does with Indonesia's wobbly economy - after the Asian financial crisis in the '90s - and politics.

Most of Indonesia's serious money is sheltered in ethnic Chinese-controlled Singapore, which has long been wary of its Muslim neighbours and where Islamic banking is in its infancy. Malaysia too went through pain in the '90s financial crisis, but Rithuan notes that not one Islamic bank in Malaysia or Indonesia required government rescue then, suggesting banks managed under Koranic principles, discouraging speculation, display a prudence non-sharia banks would be wise to mirror.

Which is fine but the economies where Islamic banking has prospered tend to be some of the world's least transparent. Do you really want your hard-earned to be salted away in Riyadh or Tehran?

Still, to the Gail Kellys and Cameron Clynes, and particularly the Mike Smiths, anxious to extend their Australian-based banks across booming Asia and the resource-rich Middle East, the jargon and diktats governing Islamic banking may take some getting used to.