Will Britain's no-interest Islamic bond generate much interest?

Asif Tufail, a shop assistant, is more careful than most young Britons to spend not a penny more than he earns. A devout Muslim, he believes it is wrong to pay – or receive – interest.

That means he also requests his bank to keep the payments they would usually make when his account is in credit. “Even if I became rich, I wouldn’t want the interest,” he says. “My religion is more important to me.”

This is music to the ears of a growing number of bankers offering financial products that are geared to Britain’s Muslims by adhering to sharia, or Islamic law, most notably a prohibition on interest.

They were given a boost by Prime Minister David Cameron last month when he announced plans to issue the country’s first sovereign Islamic bond, or sukuk.

He unveiled the scheme, along with plans to set up an Islamic index at the London Stock Exchange, at the World Islamic Economic Forum, which was held in London – the first time a non-Muslim country had hosted the event.

“It’s a very important step,” says Masjid Dawood, chief executive of Yasaar, an Islamic financial consultancy in London. “It shows there is a commitment at the highest level to Islamic finance. Islamic finance makes a lot of sense and this acknowledges that.”

The likely size of the bond – £200 million ($320 million) – is small. An original plan to issue a £2 billion ($3.2 billion) bond was shelved because of concerns it would harm the wider market for British government debt.

But it sends a message to Muslim financiers around the world that Britain is open to Islamic finance and investment – and their ancillary businesses from legal services to advice.

Real money

Modern Islamic finance dates back to the establishment of Saudi Arabia’s Islamic Development Bank as an alternative source of funding to the World Bank for Muslim countries in 1973.

But it is rooted in ancient Islamic law – the primary sources for which are the Koran and the sayings of the prophet Muhammad – which focuses on justice and partnership. In finance, that has been translated into a ban on speculation, or gharar, and – perhaps most significantly – a ban on interest, or riba.

So an initial payment – to the British government, in the case of the newly announced bond – would function as an investment in some asset rather than a loan. The investor’s return would come as a profit or rent instead of interest.

The British government's bonds are likely to make use of property as the asset into which the investments would go.

As the government is keen to point out, Islamic banking is growing 50 percent faster than conventional banking. By any measure, it has tremendous potential: The market in Islamic finance is currently $1.3 trillion. That is just 1 percent of the world’s total financial assets, but Muslims constitute around a quarter of the global population.

The allure of stability

In the wake of the world’s financial crisis, there are aspects of Islamic finance which are especially alluring.

Because Islamic finance products are tied to an underlying asset that provides a certain stream of revenue, they are likely to be more stable than other products. Its proponents are quick to point out that if countries like Greece had only been able to borrow against streams of actual revenue, they would not have run into their present difficulties.

While the development of Islamic finance has been held up in the wider Middle East by political tumult, it is booming in the Gulf states. “A whole heap of conventional debt is being replaced by Islamic debt,” says Sameer Nawaz, co-head of investment at Saudi Fransi Capital.

With its Muslim population of nearly 3 million, and, more importantly, its need to find new sources of capital, it is not surprising Britain wants to get in on the act.

The weight of Muslim investment in London is already visible in its skyline. Central London skyscraper The Shard and the Olympic village were both built on the back of sharia-compliant finance.

No interest?

But Islamic finance has its doubters, many of them from the Muslim community itself.

Critics argue that the distinction between Western banking and Islamic finance is often bogus. The system of fixed return and fixed repayment looks awfully similar to a loan repaid with interest, they say.

“It’s very hard to do banking, especially, without charging interest,” says Tarek el Diwany, an analyst at Zest Advisory, an Islamic finance consultancy.

Other Muslims do not believe the Koran explicitly bans interest.

“My life savings are in the stock market,” says Muhammed-Shahid Ebrahim, professor of Islamic Banking and Finance at Bangor Business School in Bangor, Wales.

He believes the Koran’s teaching on interest is open to interpretation. “The Koran alludes to ethical finance and compassion,” he says. “It all depends who you are catering to. If it’s the poor, you can help them with zero interest, sure.”

Critics also cite the system’s dependence upon Islamic scholars, who are paid by financial institutions to ensure that their products are sharia compliant. Because there is no ultimate authority for sharia compliance, there can be differences between scholars, as is demonstrated by different rulings on products in Saudi Arabia and the more liberal Malaysia.

In Britain, says one Muslim banker who asked not to be identified, education is a particular problem. “The whole system has been hijacked by a small number of scholars earning huge sums who lack the most basic understanding of economics,” he says.

There are hopes, nonetheless, that Islamic banking may have an appeal beyond Britain’s Muslim community. As well as being more stable, Islamic finance promotes itself as more ethical because money cannot be invested in anything deemed harmful, including weapons, tobacco, and pornography.

But first the sector must work on getting Muslims to switch to Islamic banking. Switching bank accounts in Britain can be a time-consuming and complicated procedure, and few Muslims are thought to have taken their money out of the mainstream system.

“I’m okay with my normal bank”, says Mr. Tufail, the shop assistant. “I just tell them I don’t want the interest.”