AURORA: How challenging is it going to be for Pakistan’s banking system to convert to a fully Islamic one by 2027?
YOUSAF HUSSAIN: It is certainly challenging; there are no two ways about it, and one of the biggest issues will be human resources. There are no formal training institutes, especially when it comes to the practical side. In terms of live situations, the kinds of cross-references required are not available in our academia. In this respect, transitioning within five years will be tough.
A: Why is HR so important?
YH: It means understanding what Islamic banking is about. When Faysal Bank Limited (FBL) started on this journey, we thought it would be a matter of one or two years. It turned out to be not so simple. There are multiple issues. The first is understanding Islamic banking; the principles of how it works in practice; the do’s and don’ts and how one transforms entire businesses in accordance with Islamic banking principles. It is not only about transforming the banking system, it is about transitioning into a new business model in terms of understanding the risks, the advantages and the disadvantages. It means gauging the risk aptitude of both the bank and the customer. The biggest issue is one of mindsets. For employees, it is more than about the business; it is about their belief that they are doing things the right way and that they are changing the way other businesses conduct themselves, something that will be beneficial to the wider community. The principles of Islamic participatory financing are based on contributing directly towards the building up of various industries and the economy. It is an entire chain based on faith and belief.
A: What is it about Islamic banking that involves this important element of belief?
YH: In Islam interest is considered haram. In a conventional banking model, a bank guarantees a return on a deposit, and therefore the risk element is removed – apart from the entity risk; in other words, if the bank fails. According to Islamic principles, guaranteed return without any risk participation is considered Riba/sood – interest – because you are not taking a risk, whereas Islamic principles require you to assume a business risk. It is a form of participatory financing. You invest in a pool of assets, which means you are taking a risk, because if the business fails you lose out. Of course, banks are extremely prudent. They have a portfolio of assets; they have a diversification strategy as well as a risk mitigation strategy to manage that risk. Islamic banking encourages investment in a business, and banks are the intermediaries between the businesses and the depositors/investors. If the businesses do not do well, you will not get a return. However, as I said, you are in fact investing in a pool – say 50,00 businesses – and if five do not do well, the remaining 4,795 will cover those losses. Of course, as an Islamic bank, FBL ensures that our risk management practices are at the highest standards.
A: Would it be right to assume that in Pakistan the majority of customers would gravitate towards an Islamic bank rather than a conventional one?
YH: Yes, growth on the Islamic banking side is much higher compared to conventional banking, and this growth is based on both new customers coming in and the attrition in terms of customers switching from conventional to Islamic banking.
A: If the entire banking system transitions to an Islamic one, will this not slow down the growth of existing Islamic banks given that they will lose their Islamic advantage?
YH: I don’t think so. A big portion of our market does not have a banking relationship because they believe that interest is un-Islamic and the fact is that at the moment, Islamic banks do not yet have the reach in terms of covering the entire market. There is huge potential in terms of the unbanked market coming into the net because of the increased presence of Islamic bank branches near them.
A: What is the percentage ratio between Islamic and conventional banks?
YH: As of September 2022, the market shares of Islamic banking assets and deposits in the overall banking industry stood at 20% and 21% respectively.
A: How will the various banks compete against each other in an entirely Islamic banking ecosystem?
YH: In the same way they compete now. In terms of their services and products, their overall stature and the customer’s belief in how safe their money is with a particular bank. These differentiating points will remain the same. What changes are the principles of investment, because the return parameters will change. Islamic banks act as intermediaries and are responsible for the way a depositor’s funds are utilised in a business. This is where a bank’s expertise in prudent risk management practices comes in. The differentiating factor here is the quality of a bank’s risk management practices.
A: Given the asset-based nature of Islamic financial management, how will Islamic banks deploy the excess liquidity they have?
YH: There is too much liquidity. So far, the banks have been investing in treasury bills and investment bonds. The availability of Islamic Sukuks by the Government of Pakistan (GoP) has increased. However, the challenge is that there are not enough Sukuks. Typically, in a bank such as ours, about 60 to 65% of the deposit base is liquid. Some banks do not lend a lot and prefer to invest in the government’s Pakistan Investment Bonds (PIBs) and treasury bills (T-Bills), although the government has now imposed a tax on those banks with deposits lower than a specified amount. This is a way to encourage them to lend to businesses and not to the GoP.
A: Given the liquidity Islamic banks currently dispose of, is the pool of assets sufficient to absorb that liquidity?
YH: Currently the pool of assets is not enough. As the banking industry transitions towards Islamic banking, you notice that in every large deal, there is always a proportion of Islamic financing. This is because Islamic banks took the initiative of propagating Islamic practices and now lenders are also interested in borrowing from that pool.
A: Under an Islamic system, T-Bills and PIBs, at least in their current form, will cease to exist, so will the GOP have sufficient assets on which to base their Sukuks?
YH: The government has been struggling in terms of finding unencumbered assets. However, slowly but surely, the availability of GoP assets is expected to increase as they explore different structures and methodologies.
A: What are these new structures?
YH: The government is trying to do two things. Firstly, encourage banks to lend to industry, so that more capital is made available and industry can grow – added to which, when banks lend to the industry, they are taking a degree of risk. Secondly, when it comes to government loans, the GoP is working on different forms of short-, medium- and long-term Sukuks. The GoP has already released an Asset Light Sukuk Framework that provides guidelines on raising Sharia-compliant funding through a portfolio of underlying structures aimed at creating a wider portfolio of sovereign Sukuks.
A: How difficult was the transition?
YH: There were two parts to the conversion. One part is the belief that you are doing something right for yourself and the community at large, and it was important to inculcate this concept in our employees. They have to understand the concept and believe in it. It has to be faith driven. The first two to three years were principally spent with an inward focus in terms of offering the right products and in terms of our system’s ability to cater to these products, before hitting the market. Planning was very important in terms of the milestones set, the implementation systems required and the kind of people we wanted. In this respect, the biggest issue is mindset transformation. If there is no belief at the front end, you will be perceived as shallow and playing with other people’s beliefs and the market will see through it. Next, you have to transfer this belief to the customers, which becomes a lot easier when you truly believe in the system yourself. As part of our conversion in 2022, we started to craft a new vision, mission and values (set of principles). The values were crafted keeping in mind the belief the FBL team have in Allah, confidence in their capabilities and persistence in their efforts. They are based on the premise that Allah has provided an opportunity to the FBL family for self-cleansing; faith and belief in Allah’s guidance, integrity (sadiq and ameen), teamwork, innovation, and care of both FBL’s customers and staff.
A: How different is the Noor Card from a conventional credit card?
YH: The Noor Card is one of our innovative Islamic products. It is based on the principle of Tawarruq and involves Musawamah financing. Tawarruq refers to the process of purchasing a commodity for a deferred payment through Musawamah.
A: Is FBL now fully Islamic?
YH: Yes, and our transformation has been massive and it has been officially certified by the Islamic International Rating Agency (IIRA) as the largest transformation by scale in the world. Today, FBL is well-poised in terms of offering true Islamic products. Our product range is the widest in terms of Islamic banks, from consumer finance to corporate finance to SME financing to everything else we offer under the brand. In fact, we have volunteered to the GoP to act as a role model for the transformation of the banking system in Pakistan. We have also been referenced as a model for others in the Federal Shariat Court’s recent decision on Riba. This historic conversion has been a team effort that has also been supported by our management and employees, multiple stakeholders, including our sponsors, our Board, the State Bank of Pakistan, the Shariah Board and Sharia advisors, in particular Darul Uloom and, above all, our customers.
Yousaf Hussain was in conversation with Mariam Ali Baig. For feedback: firstname.lastname@example.org