Source: Standard & Poors, Commentary Report: Islamic Finance To Expand Slowly But Surely In The Maghreb, 23 April 2007
For many years Islamic finance was virtually unheard of in the Maghreb. And while Sharia-compliant financial services remained only marginal, no clearly identifiable demand for such products was manifest. Today, the evolution of North Africa’s financial landscape is paving the way for the gradual emergence of Islamic finance in the region.
The currently only limited presence of Islamic finance in the Maghreb can largely be explained by the differences in interpretation of Sharia that have existed historically in the Muslim world. A less conservative interpretation of Islamic law in North Africa resulted in Islamic finance being perceived as being less attractive there than in the Gulf region.
Now, as North Africa is increasingly seeking investment to finance its economic development, the Mashreq is emerging as a natural partner. Culturally close, it can provide an already sophisticated Islamic financing offer that corresponds well with the particular needs of the Maghreb.
Standard & Poor’s Ratings Services is not offering an opinion regarding the degree of conformity to the principles of Sharia of banking services or products offered by Islamic financial institutions, nor on the differences in interpretation of these principles with respect to the various trends in thinking that exist in the Muslim world. Rather, we consider this to be a matter for the Sharia boards on conformity.
Having said this, an understanding of the underlying principles of Islamic finance allows us to take into consideration the risk factors that relate specifically to these products in our evaluation of the creditworthiness of Islamic institutions.
The Limited Presence Of Islamic Finance In The Maghreb Is Linked To Regional Differences In The Interpretation Of Sharia
Wide variations in intepretation of Sharia exist between the different schools of Islamic thought. These differences go some way toward explaining the varying degrees of dynamism pertaining to Islamic finance that can be found in the different subregions of the Muslim world. These divisions, which are cultural and religious rather than purely political, explain in large measure the lack of attractiveness with regard to Islamic finance that prevails in North Africa, where there has been only a low take-up of this type of financing from the population.
The limited development of Islamic finance in the Maghreb can in part be explained by the perception of this banking model that exists in the countries of the region. Islamic finance has for a long time been quite foreign to the region’s banking culture and largely imported from the eastern reaches of the Arab world, the Mashreq.
For the most part, North Africa follows a less conservative interpretation of Islamic doctrine—in keeping with a good part of Muslim Asia—compared with the Gulf. In Egypt, for example, the prestigious al-Azhar University has issued a “fatwa” (a formal legal opinion handed down by a Muslim judicial authority) calling on the faithful not to consider interest as “riba” or usury (the first pillar of modern Islamic finance), but to only consider “excessive” or “usurious” interest as illegal from the point of view of Sharia.
Historically, the banking clientele of the Maghreb has never really demonstrated any real reticence regarding the concept of interest; indeed, there exists a vast consensus that tolerates, even values, the transparency of conventional financing based on interest rates. In contrast, a large number of religious authorities in the Gulf have underscored the illicit nature of interest applied to bank credits.
It is quite common for Islamic banks to propose financing instruments at higher rates than those offered by their conventional peers. This is perfectly acceptable in the Gulf states where the average credit quality of clients is higher than it is in North Africa. The banking clientele in North Africa seeks more to minimize the costs attached to banking services. In this sense, a North African borrower would generally find it difficult to accept paying for an “ijara” (leasing) service that is more expensive than an equivalent conventional operation for the sole reason that the former conforms to the principles of Sharia and the latter doesn’t.
Finally, the speed with which North Africa has opened up to the rest of the world means that banks there have every interest in being modern and aligning themselves with the standards of quality of European or American banks in order to attract the best clients, which is not perceived as compatible with an Islamic banking image.
The political constraints that could hold back the spreading of Islamic finance in the countries of the Maghreb are far from being the most important: the cultural, religious, and microeconomic stakes constitute mechanisms that are equally as powerful in holding up the spreading of Islamic finance in North Africa, in marked contrast with the trail that has been blazed in the Gulf and in Malaysia.
A conservative Islamic bank that wished to safeguard its respect for Sharia could find itself attracting only a mass clientele, more sensitive to religious aspects but also less profitable and more risky, even though this would rule out its simultaneously conveying the image of a bank in line with best management practices and at the forefront of technology. In this sense, an Islamic bank in North Africa would be naturally led to practice spontaneous antiselection, in complete contrast to its Gulf peers, whose average retail clients are far more creditworthy. In this case, it would accumulate bad debts, and would encounter a lot of difficulty in realizing its guarantees in view of its “ethical” character, which went hand in hand with its Islamic status. An Islamic bank would have greater difficulty in recovering its loans to households in default of payment.
The Development Of Islamic Finance In The Maghreb Should Be Gradual
Generally speaking, the gradual development of the economic environment in the Maghreb so far and the caution historically excercised by its business leaders in taking decisions could act as the principal brakes on the future evolution of Islamic banks in the region. In Morocco, the concept of an Islamic bank is for the moment largely absent from the financial practices of major institutions.
In Tunisia and Algeria, Islamic finance is limited to two banks: Bank Et-Tamweel Al-Tunisi Al-Saudi and Banque Albaraka d’Algérie, both subsidiaries of the same finanicial conglomerate, Albaraka Banking Group (B.S.C.) (ABG; BBB-/Stable/A-3). ABG is majority held by Saudi investors; the parent entity is domiciled in the Kingdom of Bahrain (A/Stable/A-1).
Local interest in Islamic finance is gathering momentum
The presence of Islamic banks in certain countries of the Maghreb has been accompanied by the gradual development of the opinion of local regulators in its regard. A few years ago, the issue of Islamic finance had been barely touched upon in public debate, and presented an appeal that was at best exotic for regulators and directors of banks already active in the market. Today the subject generates more interest: discussions are being refined, and market players are beginning to see in it an interesting engine of growth from the perspective of gaining market share.
In 2006, following the example of a large number of its peers in the Muslim world, the Central Bank of Morocco (Bank Al-Maghrib) became a shareholder of the International Financial Services Board (IFSB). Based in Malaysia, this “club” of central banks serves as a transnational regulatory body aiming to harmonize standards of prudential regulation applicable to Islamic banks.
The recent interest expressed by Morocco, Algeria, and Tunisia in Islamic finance comes as no surprise. In fact, Morocco is growing at an annual rate of more than 7% in real terms, generating colossal flows of investment in infrastructure and human capital, at a time when its stragety of setting up a lasting international specialization (notably in terms of offshoring) is being set out in a clearer manner. This implies not so much foreign indirect investment, but real foreign direct investment (FDI), the provenance of which is widening to include financial flows coming from the Gulf.
The Mashreq is emerging as a natural partner
Europe and North America represent longstanding political partners, not only for economic reasons but also for motives of geopolitical influence within an Arab world in the throes of transformation. The insufficiency of these measures, however, in fulfilling the purely economic needs of the countries of the Maghreb has led the latter to approach the Mashreq, which benefits from a lasting supply of surplus liquidity stemming from the manna that is represented by hydrocarbons, whose prices have been maintained at record levels during the past three years.
Tourism, real estate, and infrastructure constitute the three principle asset classes causing investors from the Mashreq to be attracted to the Maghreb. All three sectors are particularly attractive from the point of view of Islamic finance. In fact, the second principle of Islamic finance holds that any financing activity that conforms to the rules of Sharia must be supported by an underlying tangible asset. Hotel facilities, real estate, and infrastructure projects therefore present an inherent conformity with Sharia, and demand emanating from the Maghreb for financing of these sectors fits naturally with ShariA-compliant offers.
Such offers are essentially being issued by a new generation of Islamic banks in the Gulf, specialized not in conventional banking intermediation, but in the business lines of investment banks. Arcapita BankB.S.C. (BBB/Stable/A-2), Gulf Finance House (BBB-/Stable/A-3), and Unicorn Investment Bank (not rated), all based in Bahrain, are the best representatives of this new generation of financial intermediaries, capturing the capital that institutions and wealthy families are seeking to invest and recycling it in high-yielding industrial, real estate, and infrastructure projects.
The emergence of Islamic investment banks allows a double objective to be met: on the one hand, it guarantees the recycling of liquidity from the Gulf in profitable asset classes that rank as eligible among ShariA-compliant investments, and, on the other hand, it allows the surplus liquidity to be allocated to a cultural area considered to be close, insufficiently exploited economically, and in need of FDI. As a consequence, Islamic finance could drive a significant portion of sustainable financing from the Mashreq to the Maghreb, particularly in the financing of infrastructure, tourism, and real estate projects.
Significant potential exists for development, which should be gradual
The underdevelopment of Islamic finance in the countries of the Maghreb is particularly striking in the domain of individual banking. The proximity between Islamic finance and individual banking is however obvious: it is households first and foremost that are sensitive to religious arguments in matters of finance. In view of the spectacular growth in this line of business in the past three years, notably in Morocco and Tunisia, several Islamic banks in the Gulf that lack geographical diversification would find it interesting to gain a foothold in retail banking in the Maghreb.
In this expansion of the individual banking market, the social and thus political stakes are important. The local authorities responsible for regulation and supervision of banking systems in the countries concerned will therefore undoubtedly play a role in the opening of their borders to Islamic financial institutions domiciled in the Gulf. In fact, we believe that the development of Islamic finance in the countries of the Maghreb should be very selective, and that the North African regulators will certainly not authorize a massive entry of Islamic competitors into their territories.
It should be pointed out, however, that banking competition within the most financially mature countries of the Maghreb (Morocco and Tunisia) is intensifying, and that, as a consequence, Islamic finance can represent a good means of achieving strategic differentiation beyond the classic strategies of pricing and quality.
The introduction of Islamic finance into the Maghreb will likely be gradual. Bank Al-Maghrib announced on March 20, 2007, that Moroccan banks were authorised to offer banking services that conform to Sharia. At present, this authorization is limited to three products: “ijara” (leasing), “murabaha” (a contract to purchase and resell an underlying good including a mark-up), and “musharaka” (equivalent to a co-ownership financing structure).
In the same way, Tunisia for its part has made a significant advance in terms of Islamic finance by adopting, in February 2007, a law pertaining to the creation of an “international Islamic institution”, in partnership with the Islamic Development Bank, whose authorized capital would amount to $3 billion. The objective of this institution is to contribute, through its Islamic financing activities, to boosting business between the Arab countries of the Maghreb and the Mashreq.
Finally, the existance of public-sector banks that could be privatized in each of the countries of the Maghreb may attract Islamic banks in the Mashreq inclined toward external growth: in Morocco, Crédit Industriel et Hôtelier and Crédit Agricole du Maroc could be put up for sale; in Tunisia, the reference shareholders of Banque Tuniso-Koweitienne will likely change; and in Algeria, it seems that, in addition to Crédit Populaire d’Algérie, other public-sector banks are in a position to be looking for private buyers.
For many years Islamic finance was virtually unheard of in the Maghreb. And while Sharia-compliant financial services remained only marginal, no clearly identifiable demand for such products was manifest. Today, the evolution of North Africa’s financial landscape is paving the way for the gradual emergence of Islamic finance in the region.
The currently only limited presence of Islamic finance in the Maghreb can largely be explained by the differences in interpretation of Sharia that have existed historically in the Muslim world. A less conservative interpretation of Islamic law in North Africa resulted in Islamic finance being perceived as being less attractive there than in the Gulf region.
Now, as North Africa is increasingly seeking investment to finance its economic development, the Mashreq is emerging as a natural partner. Culturally close, it can provide an already sophisticated Islamic financing offer that corresponds well with the particular needs of the Maghreb.
Standard & Poor’s Ratings Services is not offering an opinion regarding the degree of conformity to the principles of Sharia of banking services or products offered by Islamic financial institutions, nor on the differences in interpretation of these principles with respect to the various trends in thinking that exist in the Muslim world. Rather, we consider this to be a matter for the Sharia boards on conformity.
Having said this, an understanding of the underlying principles of Islamic finance allows us to take into consideration the risk factors that relate specifically to these products in our evaluation of the creditworthiness of Islamic institutions.
The Limited Presence Of Islamic Finance In The Maghreb Is Linked To Regional Differences In The Interpretation Of Sharia
Wide variations in intepretation of Sharia exist between the different schools of Islamic thought. These differences go some way toward explaining the varying degrees of dynamism pertaining to Islamic finance that can be found in the different subregions of the Muslim world. These divisions, which are cultural and religious rather than purely political, explain in large measure the lack of attractiveness with regard to Islamic finance that prevails in North Africa, where there has been only a low take-up of this type of financing from the population.
The limited development of Islamic finance in the Maghreb can in part be explained by the perception of this banking model that exists in the countries of the region. Islamic finance has for a long time been quite foreign to the region’s banking culture and largely imported from the eastern reaches of the Arab world, the Mashreq.
For the most part, North Africa follows a less conservative interpretation of Islamic doctrine—in keeping with a good part of Muslim Asia—compared with the Gulf. In Egypt, for example, the prestigious al-Azhar University has issued a “fatwa” (a formal legal opinion handed down by a Muslim judicial authority) calling on the faithful not to consider interest as “riba” or usury (the first pillar of modern Islamic finance), but to only consider “excessive” or “usurious” interest as illegal from the point of view of Sharia.
Historically, the banking clientele of the Maghreb has never really demonstrated any real reticence regarding the concept of interest; indeed, there exists a vast consensus that tolerates, even values, the transparency of conventional financing based on interest rates. In contrast, a large number of religious authorities in the Gulf have underscored the illicit nature of interest applied to bank credits.
It is quite common for Islamic banks to propose financing instruments at higher rates than those offered by their conventional peers. This is perfectly acceptable in the Gulf states where the average credit quality of clients is higher than it is in North Africa. The banking clientele in North Africa seeks more to minimize the costs attached to banking services. In this sense, a North African borrower would generally find it difficult to accept paying for an “ijara” (leasing) service that is more expensive than an equivalent conventional operation for the sole reason that the former conforms to the principles of Sharia and the latter doesn’t.
Finally, the speed with which North Africa has opened up to the rest of the world means that banks there have every interest in being modern and aligning themselves with the standards of quality of European or American banks in order to attract the best clients, which is not perceived as compatible with an Islamic banking image.
The political constraints that could hold back the spreading of Islamic finance in the countries of the Maghreb are far from being the most important: the cultural, religious, and microeconomic stakes constitute mechanisms that are equally as powerful in holding up the spreading of Islamic finance in North Africa, in marked contrast with the trail that has been blazed in the Gulf and in Malaysia.
A conservative Islamic bank that wished to safeguard its respect for Sharia could find itself attracting only a mass clientele, more sensitive to religious aspects but also less profitable and more risky, even though this would rule out its simultaneously conveying the image of a bank in line with best management practices and at the forefront of technology. In this sense, an Islamic bank in North Africa would be naturally led to practice spontaneous antiselection, in complete contrast to its Gulf peers, whose average retail clients are far more creditworthy. In this case, it would accumulate bad debts, and would encounter a lot of difficulty in realizing its guarantees in view of its “ethical” character, which went hand in hand with its Islamic status. An Islamic bank would have greater difficulty in recovering its loans to households in default of payment.
The Development Of Islamic Finance In The Maghreb Should Be Gradual
Generally speaking, the gradual development of the economic environment in the Maghreb so far and the caution historically excercised by its business leaders in taking decisions could act as the principal brakes on the future evolution of Islamic banks in the region. In Morocco, the concept of an Islamic bank is for the moment largely absent from the financial practices of major institutions.
In Tunisia and Algeria, Islamic finance is limited to two banks: Bank Et-Tamweel Al-Tunisi Al-Saudi and Banque Albaraka d’Algérie, both subsidiaries of the same finanicial conglomerate, Albaraka Banking Group (B.S.C.) (ABG; BBB-/Stable/A-3). ABG is majority held by Saudi investors; the parent entity is domiciled in the Kingdom of Bahrain (A/Stable/A-1).
Local interest in Islamic finance is gathering momentum
The presence of Islamic banks in certain countries of the Maghreb has been accompanied by the gradual development of the opinion of local regulators in its regard. A few years ago, the issue of Islamic finance had been barely touched upon in public debate, and presented an appeal that was at best exotic for regulators and directors of banks already active in the market. Today the subject generates more interest: discussions are being refined, and market players are beginning to see in it an interesting engine of growth from the perspective of gaining market share.
In 2006, following the example of a large number of its peers in the Muslim world, the Central Bank of Morocco (Bank Al-Maghrib) became a shareholder of the International Financial Services Board (IFSB). Based in Malaysia, this “club” of central banks serves as a transnational regulatory body aiming to harmonize standards of prudential regulation applicable to Islamic banks.
The recent interest expressed by Morocco, Algeria, and Tunisia in Islamic finance comes as no surprise. In fact, Morocco is growing at an annual rate of more than 7% in real terms, generating colossal flows of investment in infrastructure and human capital, at a time when its stragety of setting up a lasting international specialization (notably in terms of offshoring) is being set out in a clearer manner. This implies not so much foreign indirect investment, but real foreign direct investment (FDI), the provenance of which is widening to include financial flows coming from the Gulf.
The Mashreq is emerging as a natural partner
Europe and North America represent longstanding political partners, not only for economic reasons but also for motives of geopolitical influence within an Arab world in the throes of transformation. The insufficiency of these measures, however, in fulfilling the purely economic needs of the countries of the Maghreb has led the latter to approach the Mashreq, which benefits from a lasting supply of surplus liquidity stemming from the manna that is represented by hydrocarbons, whose prices have been maintained at record levels during the past three years.
Tourism, real estate, and infrastructure constitute the three principle asset classes causing investors from the Mashreq to be attracted to the Maghreb. All three sectors are particularly attractive from the point of view of Islamic finance. In fact, the second principle of Islamic finance holds that any financing activity that conforms to the rules of Sharia must be supported by an underlying tangible asset. Hotel facilities, real estate, and infrastructure projects therefore present an inherent conformity with Sharia, and demand emanating from the Maghreb for financing of these sectors fits naturally with ShariA-compliant offers.
Such offers are essentially being issued by a new generation of Islamic banks in the Gulf, specialized not in conventional banking intermediation, but in the business lines of investment banks. Arcapita BankB.S.C. (BBB/Stable/A-2), Gulf Finance House (BBB-/Stable/A-3), and Unicorn Investment Bank (not rated), all based in Bahrain, are the best representatives of this new generation of financial intermediaries, capturing the capital that institutions and wealthy families are seeking to invest and recycling it in high-yielding industrial, real estate, and infrastructure projects.
The emergence of Islamic investment banks allows a double objective to be met: on the one hand, it guarantees the recycling of liquidity from the Gulf in profitable asset classes that rank as eligible among ShariA-compliant investments, and, on the other hand, it allows the surplus liquidity to be allocated to a cultural area considered to be close, insufficiently exploited economically, and in need of FDI. As a consequence, Islamic finance could drive a significant portion of sustainable financing from the Mashreq to the Maghreb, particularly in the financing of infrastructure, tourism, and real estate projects.
Significant potential exists for development, which should be gradual
The underdevelopment of Islamic finance in the countries of the Maghreb is particularly striking in the domain of individual banking. The proximity between Islamic finance and individual banking is however obvious: it is households first and foremost that are sensitive to religious arguments in matters of finance. In view of the spectacular growth in this line of business in the past three years, notably in Morocco and Tunisia, several Islamic banks in the Gulf that lack geographical diversification would find it interesting to gain a foothold in retail banking in the Maghreb.
In this expansion of the individual banking market, the social and thus political stakes are important. The local authorities responsible for regulation and supervision of banking systems in the countries concerned will therefore undoubtedly play a role in the opening of their borders to Islamic financial institutions domiciled in the Gulf. In fact, we believe that the development of Islamic finance in the countries of the Maghreb should be very selective, and that the North African regulators will certainly not authorize a massive entry of Islamic competitors into their territories.
It should be pointed out, however, that banking competition within the most financially mature countries of the Maghreb (Morocco and Tunisia) is intensifying, and that, as a consequence, Islamic finance can represent a good means of achieving strategic differentiation beyond the classic strategies of pricing and quality.
The introduction of Islamic finance into the Maghreb will likely be gradual. Bank Al-Maghrib announced on March 20, 2007, that Moroccan banks were authorised to offer banking services that conform to Sharia. At present, this authorization is limited to three products: “ijara” (leasing), “murabaha” (a contract to purchase and resell an underlying good including a mark-up), and “musharaka” (equivalent to a co-ownership financing structure).
In the same way, Tunisia for its part has made a significant advance in terms of Islamic finance by adopting, in February 2007, a law pertaining to the creation of an “international Islamic institution”, in partnership with the Islamic Development Bank, whose authorized capital would amount to $3 billion. The objective of this institution is to contribute, through its Islamic financing activities, to boosting business between the Arab countries of the Maghreb and the Mashreq.
Finally, the existance of public-sector banks that could be privatized in each of the countries of the Maghreb may attract Islamic banks in the Mashreq inclined toward external growth: in Morocco, Crédit Industriel et Hôtelier and Crédit Agricole du Maroc could be put up for sale; in Tunisia, the reference shareholders of Banque Tuniso-Koweitienne will likely change; and in Algeria, it seems that, in addition to Crédit Populaire d’Algérie, other public-sector banks are in a position to be looking for private buyers.
