Islamic Banking Goes Global: It Began as a Theological Dream, but Islamic Banking Has Become a Practical Reality across the Middle East. the Question Now Is, How Far Will Sharia Boards and Western Regulators Let It Spread?

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FROM DISCREET OFFICES IN THE City of London to a tree-lined street in the small American town of Ann Arbor, Islamic banking and financial institutions are successfully winning regulatory approvals to operate alongside conventional western-style institutions.

The success of these institutions rests in part with the fact that both the-US and the UK have large Muslim communities in which Islamic banking has a unique appeal.

In a recent conference on Islamic Banking sponsored by the Arab Bankers Association of America, Paul Homsy, a legal expert, cited new surveys showing that 30% of the 7m American Muslims "want to adhere to strict Islamic principles" when dealing with their finances.

In the UK, experts say the Muslim population of 2m includes over 160,000 high net worth potential banking and financial services clients.

Although these numbers are small compared to the populations in the Arab world that already use Islamic investment guides, they might have a significant impact on trends in Arab overseas investment and even the very nature of how western money centres operate.

For both religious and financial reasons, Islamic banking remains a field with great unrealised potential. Consider this: GCC member governments have invested almost $1 trillion abroad; individuals from those countries hold another $500bn in overseas portfolios. Most of those funds are in conventional western-style investment vehicles.

According to World Bank analysts, fully 90% of those monies have flowed to the US and the European Union.

If Islamic principles governed as little as 5% of those funds, it could revolutionise western financial markets. As one American bank regulator put it, "Islamic screening practices could be very popular with non-Islamic investors".

Those principles already have many adherents. In some Middle East markets, especially in the Gulf, surveys show upwards of 50% of the consumer population favours an Islamic banking option.

"Islamic banking is coming out as the mainstream banking in the Middle East region," notes Omar Marwan Kamal, executive manager of the Bahrain-based Islamic Financial Services Group (IFSG). He believes success in the Middle East will prompt more Muslims in other parts of the world to seek Islamic banking and investment vehicles.

Part of that success has depended on Islamic banks' ability to blend religious propriety with financial innovation. "Being Islamic in the GCC is not enough," says Kamal. "You have to be competitive in prices and profits."

As Islamic banking matures, Kamal believes western market regulators will take a more "positive stance" towards embracing it in their regulatory domains. As an example, he sites the recent change in attitude towards Islamic banking by the British regulatory body the Financial Services Authority (FSA) which has been playing a more pro-active role in promoting Islamic banking in the UK. "This culminated in the establishment earlier this year of the Islamic Bank of Britain.

"Having a western country such as the UK welcoming Islamic banking acts as a promotional factor for other western regulators to explore the opportunities offered by the Islamic banking industry," says Kamal.

Despite its potential, Islamic banking has had a bumpy ride.

After initial success in the 1980s, fuelled in large part by soaring oil revenues in the Gulf, Islamic banking suffered several setbacks. There were a series of failed or discredited attempts at 'Islamisation' in Egypt, Iran, Sudan and Pakistan. Several Islamic financial institutions went bust after dangerously leveraging their funds (violating a basic Islamic financial tenet to avoid excessive risk). Moreover, the surviving Islamic banks were often unable to offer competitive and consumer-friendly financial products.

This challenge prompted Islamic bankers and scholars to develop new product menus, and to reach out to a broader client base. …