SWFs as a Catalyst for Islamic Finance?

As Indonesia is working to create a substantial and durable state-owned Islamic bank, it seems an opportune moment to reflect on why there aren’t more state-supported and sovereign wealth fund-supported Islamic financial institutions (with a few notable exceptions, such as Asiya).

Islamic finance is perhaps best known for its prohibition on the acceptance of riba (usury) and excessive risk, thus rendering many forms of interest-bearing instruments incompatible with sharia.  However, for many Islamic finance also has an important positive moral imperative; Islamic finance is a kind of socially responsible investing that is designed not to merely prohibit certain activities, but to actively promote socially beneficial activities.

SWFs seem ideal catalysts for this type of activity.  However, SWFs have been at pains to demonstrate to the world that they are purely commercial investors, perhaps explaining why they have not focused on “socially responsible” investing and values-based investing.  Along these lines, my SWFI colleagues Asim Ali and Shatha Al-Aswad produced a paper last fall looking at how SWFs and other government entities can promote Islamic finance and other forms of social investing.  They state:

We acknowledge that the advancement of Islamic Finance among SWFs has been anemic to date. Persian Gulf based states have avoided deploying their SWFs to invest in Islamic Finance. In doing so we believe they marginalize one of the most profitable and suitable investments for their long-term missions. Likewise impact investing has yet to be embraced by large-scale institutional investors, including SWF, principally for reasons of return and investment scale as each relates to their fiduciary or other stakeholder obligations. Both are formidable challenges, which will require creative solutions to overcome.

We believe that the principles of impact investing can reinforce and extend the social principles of Islamic Finance and its built-in risk management mechanism. These in turn can further strengthen the social values of impact investing. Both can form the foundation of an enlightened development agenda facilitated, at least in part, by sovereign investment vehicles. Bahrain and Malaysia, through their respective sovereign development funds, offer interesting cases in point. Could both build on their extensive expertise in Islamic Finance and leverage their SWFs to drive socio-economic development? Similarly can other Persian Gulf based SWFs – ADIA, SAMA, KIA, and QIA – leverage the structures of impact investing to serve their aspirations in building new cities and creating jobs through investments that enhance the quality of economic development and drive social impact?

The paper can be found here.


[Image: Islamicity.com]